Sample Exam I
KEY
(Note: There were multiple versions of the exam where the answers appeared in a different
order.)
YOUR
NAME:__________________________________________________________________
Scan form must include your first and last name, as well as your unique ID (part before the “@”
in your MU Ohio email.) Fill in the bubbles under your unique ID. Answer all of the exam
questions by filling in the appropriate circle on the answer form. I recommend you also answer
in the exam booklet, in the event there is a problem with your scan form.
When you are finished, PLACE THE ANSWER FORM INTO THE EXAM BOOKLET, and
TURN IN YOUR EXAM BOOKLET.
Formulas:
P/E ratio = PRICE/EPS
T
P
0
=
∑[D
t
/(1+r)
t
] + P
T
/(1+r)
T
t=1
P
0
= Div
1
/(rg)
P
0
= EPS
1
/r
+ PVGO
per share
[R
m
 R
f
] = Market Risk Premium for equity
Return = [dollar return on stocks – interest paid]/own money invested
Return = (Div
1
+ P
1
P
0
)/P
0
r
assets
=WACC = (1T
c
)D/(D+E) r
D
+ E/(D+E) r
E
r
assets
= D/(D+E)r
debt
+ E/(D+E)r
equity
Note: V = D+E
β
assets
= D/(D+E) β
D
+ E/(D+E) β
E
β
i
=
ρ
i,mkt
x
(
σ
i
/
σ
mkt ) OR
β
i
=
Cov
i,mkt
/
σ
2
mkt
variance of a 2stock portfolio
=
σ
p
2
= x
1
2
σ
1
2
+ x
2
2
σ
2
2
+ 2 (x
1
) (x
2
)
ρ
12
(
σ
1
) (
σ
2
)
where
ρ
12
(
σ
1
) (
σ
2
) = covariance between stocks 1 and 2 and x
1
and x
2
= proportions invested in
stocks 1 & 2 (respectively)
Standard deviation of the portfolio
, (
σ
) =
the
square root
of variance of the portfolio
1)
______ You hold a
fullydiversified
portfolio of stocks with a beta = 1. You are considering
1
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adding a new stock or bond to your portfolio. Which investment below would result in the
greatest reduction in the standard deviation of returns of
your aggregate holdings?
a.
A corporate bond
b.
A onemonth treasury bill
c.
A welldiversified mutual fund consisting of S&P 500 stocks
d.
A negative beta stock
e.
Since the portfolio is already
fully
diversified, you can reduce total portfolio risk
no further.
A negative beta stock provides the greatest reduction in risk to your portfolio which, by virtue
of being “fullydiversified” has variability ONLY due to market risk. A negative beta stock will
reduce this variability (at a cost of lower portfolio returns.)
2)
_______
Which of the following suggests that the current market risk premium for equities
might be
lower
than its historical average?
a.
The higher variance of the market’s returns that has persisted since October
2008
b.
The lower thanaverage interest rates than have persisted since October 2008
c.
The availability of international equity investments that can reduce risk
d.
The creation of hedge fund investment firms
that rely on complex formulas to
price investments
e.
Exactly two of the above answers are correct
Choice “a” suggests a higher market risk premium. (The other factor that suggests a lower
market risk premium is the reduction in transaction costs related to buying and selling
securities.)
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 Spring '11
 KellyBrunarski
 Standard Deviation, ABC Co.

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