Question 1

According to the basic stock valuation model,the value an investor assigns to a share of stock is dependent upon the length of time the investor plans to hold the stock.

Accepted Answer

According to the basic stock valuation model, the value of a stock is based on factors such as the company's earnings, dividends, and future growth potential, rather than the length of time an investor plans to hold the stock. However, the length of time an investor holds a stock can impact their overall return on investment.

Question 2

The realized rate of return on a stock is always equal to expected rate of return when the stock is purchased at the current market value.

Accepted Answer

The realized rate of return on a stock can be higher or lower than the expected rate of return, depending on various factors such as market conditions, company performance, and unforeseen events. The expected rate of return is simply an estimate based on available information, and there are no guarantees that it will be achieved.

Question 3

The prices of high-coupon bonds tend to be less sensitive to a given change in interest rates than low-coupon bonds,other things equal and held constant.

Accepted Answer

This is because high-coupon bonds provide a higher stream of cash flows that partially offset the impact of rising interest rates, whereas low-coupon bonds provide a smaller stream of fixed cash flows that become less attractive when rates rise.

Question 4

If two firms have the same current dividend and the same expected growth rate,their stocks must sell at the same current price or else the market will not be in equilibrium.

Accepted Answer

The current price of a stock is determined by various factors, such as market demand and supply, company's financial performance and outlook, and investor sentiment. Even if two firms have the same current dividend and growth rate, their stock prices may still differ due to other factors, such as differences in risk, profitability, or market perception. Therefore, the market may still be in equilibrium even if two firms with similar fundamental characteristics have different stock prices.

Question 5

If the required rate of return on a bond is greater than its coupon interest rate (and r_d remains above the coupon rate),the market value of that bond will always be below its par value until the bond matures,at which time its market value will equal its par value.(Accrued interest between interest payment dates should not be considered when answering this question. )

Accepted Answer

When the required rate of return is higher than the coupon rate, investors are demanding a higher return on their investment. This means they are willing to pay less for the bond in the market, resulting in a market value below the par value. However, as the bond approaches maturity, its market value will gradually approach its par value since the bond will eventually pay the full face value to the bondholder.

Question 6

A $1,000 face value bond with a $100 annual interest payment with five years to maturity (not expected to default)would sell for a premium if interest rates were below 9% and would sell for a discount if interest rates were greater than 11%.

Accepted Answer

When interest rates are lower than the bond's coupon rate of 10% ($100 divided by $1,000), investors are willing to pay a premium for the bond because it provides a higher yield than what is currently available on the market. On the other hand, when interest rates exceed the bond's coupon rate, investors can receive a higher yield by buying other bonds with higher interest rates, and therefore the bond would sell at a discount. So, the statement is true.

Question 7

If interest rates remain below the coupon on a bond,the bond will sell at a premium right up through its maturity.The maturity value will include the bond's face value plus a maturity premium equal to the face value times the percentage of the bond's life during which it sold for a premium.

Accepted Answer

Bonds selling at a premium due to lower interest rates than the coupon rate will still mature at their face value, not with an added maturity premium. The premium reflects market value before maturity, not an additional payout at maturity.

Question 8

All else equal,a higher required rate of return on a firm's stock will result in a higher market price for that firm's stock.

Accepted Answer

All else equal, a higher required rate of return on a firm's stock would make it less attractive to investors, leading to a lower demand for the stock and therefore a lower market price.

Question 9

The value of a financial asset is positively related to the size of the cash flows and the discount rate appropriate for the riskiness of the cash flows.

Accepted Answer

The value of a financial asset is positively related to the size of the cash flows but negatively related to the discount rate appropriate for the riskiness of the cash flows. Higher discount rates reduce the present value of future cash flows.

Question 10

A premium bond is a bond whose par value is greater than the market value of that bond.

Accepted Answer

A premium bond is a bond whose market value is greater than its par value.

Question 11

All else equal,a higher coupon rate on a bond results in a higher market price for the bond.

Accepted Answer

A higher coupon rate means the bond pays more interest, making it more attractive to investors, which increases its market price.

Question 12

According to the textbook model,under conditions of nonconstant growth,the discount rate utilized to find the present value of the expected cash flows will be the same for the initial growth period as for the normal growth period.

Accepted Answer

The answer of According to the textbook model,under conditions of...

Question 13

A discount bond is a bond that sells below its par value.

Accepted Answer

A discount bond is a bond that sells at a price below its par value. Par value is the face value of a bond or the amount that the bond will be worth when it matures.

Question 14

The prices of outstanding bonds are typically very close to the par value of the bond.

Accepted Answer

The prices of outstanding bonds can be above or below the par value, depending on factors such as prevailing interest rates, creditworthiness of the issuer, and time to maturity.

Question 15

If two bonds have the same maturity and the same expected rate of return,but one has a higher coupon,the price of the low coupon bond will be more affected by a given change in interest rates.

Accepted Answer

The price of a bond is inversely related to the yield or interest rate. If interest rates rise, the price of a bond falls, and if interest rates fall, the price of a bond rises. However, the magnitude of this price change depends on the coupon rate of the bond. A bond with a lower coupon rate will be more impacted by a change in interest rates than a higher coupon bond with the same maturity because it is earning a lower interest rate and is therefore less attractive to investors. As a result, the price of the low coupon bond will drop more than the high coupon bond when interest rates rise or increase more than the high coupon bond when interest rates fall.

Question 16

The common stock valuation model,as shown below,gives no consideration to expected capital gains.

Accepted Answer

The answer of The common stock valuation model,as shown below,gives...

Question 17

You have just noticed in the financial pages of the local newspaper that you can buy a bond ($1,000 par)for $800.If the coupon rate is 10 percent,with annual interest payments,and there are 10 years to maturity,you should make the purchase if your required return on investments of this type is 12 percent.

Accepted Answer

The bond is currently being sold at a discount ($800 instead of $1,000), which means the yield to maturity is higher than the coupon rate. If the required return on investment is 12%, which is higher than the coupon rate of 10%, then buying the bond at a discounted price and earning the 10% coupon payments would result in a return higher than 12%. Therefore, it would be a good investment decision to purchase the bond.

Question 18

All else equal,higher expected cash flows associated with a financial asset results in a higher required rate of return on that financial asset.

Accepted Answer

The statement is actually the opposite of what is true. Higher expected cash flows associated with a financial asset actually result in a lower required rate of return on that financial asset, assuming all other factors remain equal. This is because investors are willing to accept a lower rate of return in exchange for the higher expected cash flows.

Question 19

Regardless of what interest rates do in the future,the bond's price will approach the par value of the bond as it nears its maturity date.

Accepted Answer

This statement is true. As a bond approaches its maturity date, the remaining time for interest payments and principal repayment decreases, causing the bond's price to approach its par value, which is the amount the issuer originally received for the bond. This is because there is less uncertainty about the future cash flows of the bond as the maturity date nears, which reduces the risk component of the bond's price.

Question 20

All else equal,a higher required rate of return on a financial asset results in a higher price for that asset.

Accepted Answer

A higher required rate of return indicates that investors are demanding a higher compensation for the risk associated with the asset. This makes the asset less attractive, lowering its demand and price. Conversely, a lower required rate of return will increase the demand for the asset, resulting in a higher price.

Quiz 10: Valuation Concepts