Question

Which of the following is FALSE?
Select one:
a. Incremental cash flows represent the additional cash flows expected as a direct result of the proposed project.
b. Sunk costs are cash outlays that have already been made and therefore have no effect on the cash flows relevant to the current decision.
c. A sunk cost is a cash flow that could be realized from the best alternative use of an owned asset.
d. The three major cash flow components include the initial investment, operating cash flows, and terminal cash flow.

Which of the following is FALSE?
Select one:
a. Under no circumstance would adding an asset to a portfolio increase the risk of the portfolio above the risk of the most risky asset in the portfolio.
b. In general, the lower the correlation between asset returns, the greater the benefit of diversification.
c. A portfolio of two negatively correlated assets may have less risk than either of the individual assets.
d. Two assets whose returns move in the opposite directions and have a correlation coefficient of -1 are either risk-free assets or low-risk assets.

Answer 1

Answer 1. c. A sunk cost is a cash flow that could be realized from the best alternative use of an owned asset.

Explanation: Cash flow from the best alternative use of an owned asset is called opportunity cost & such costs are relevant to the decision making process. Sunk cost refers to the costs already incurred in the past & is irrelevant to the decision making process.  

Answer 2. d. Two assets whose returns move in opposite directions and have a correlation coefficient of -1 are either risk-free assets or low-risk assets.

Explanation: When two assets whose returns have a correlation coefficient of -1, it means they have a perfect negative correlation & they move in opposite directions. Thus the positive movement of one stock will be co-related with the negative movement of the other stock. Risk-free assets or low-risk assets don't have a negative correlation as they move in same direction.