Question

6)   Which of the following is a problem when using the CAPM to estimate the cost of capital for equity?

A. The risk-free rate of return fluctuates.

B. The market return fluctuates.

C. The beta fluctuates.

D. The beta is calculated using historical data.

7)   You are trying to determine the appropriate price to pay for a share of common stock. If you purchase this stock, you plan to hold it for 1 year. At the end of the year you expect to receive a dividend of $5.50 and to sell the stock fro $154. The appropriate rate of return for this stock is 16 percent. What should be the current price of this stock?

A. $137.50

B. $150.22

C. $162.18

D. $98.25

8)   Let’s suppose that you are considering investing in two investments (“A” and “B”), which have exactly the same expected future cash flows measured as a percentage of the initial investment, however investment A is cheaper. Which of these investments is more risky?

      A. Investment A.

      B. Investment B.

      C. They have exactly the same risk.

      D. Cannot tell from the information provided.

9)   If the rate of return for preferred stock goes up, for example because the market has become more risky, the price of preferred stock goes down.

      True/False

10) When a firm has a negative beta it means that it has a very low cost of capital.

True/False

Answer 1

6) Which of the following is a problem when using the CAPM to estimate the cost of capital for equity?
D. The beta is calculated using historical data.
7) You are trying to determine the appropriate price to pay for a share of common stock. If you purchase this stock, you plan to hold it for 1 year. At the end of the year you expect to receive a dividend of $5.50 and to sell the stock fro $154. The appropriate rate of return for this stock is 16 percent. What should be the current price of this stock?
A. $137.50 (=(154+5.5)/1.16)
8) Let’s suppose that you are considering investing in two investments (“A” and “B”), which have exactly the same expected future cash flows measured as a percentage of the initial investment, however investment A is cheaper. Which of these investments is more risky?
C. They have exactly the same risk.
9) If the rate of return for preferred stock goes up, for example because the market has become more risky, the price of preferred stock goes down.
True (Price=Preferred Dividend/return)
10) When a firm has a negative beta it means that it has a very low cost of capital.
True (cost of capital=risk free+beta*market risk premium)