Questions and Answers of Investments Analysis And Management

Assume that you have an investment portfolio worth $100,000 invested in bonds because you are a conservative investor. Based on the discussion in this chapter, is this a sound decision?
Now assume that you inherit $25,000 and decide to invest this amount in bonds also, adding the new bonds to your existing $100,000 bond portfolio. Is such a decision consistent with the lessons of
Can gold be used as part of an asset allocation plan? If so, how can this be accomplished?
Suppose you are considering a stock fund and a bond fund and determine that the covariance between the two is –179. Does this indicate a strong negative relationship?
Can a single asset portfolio be efficient?
Can the original Markowitz efficient frontier ever be a straight line?
What is the major problem in testing capital market theory?
Why does Roll argue that the CAPM is untestable?
The CML can be described as representing a trade‐ off. What is this trade‐off? Be specific.
What does a factor model say about equilibrium in the marketplace?
What is meant by “intrinsic value”? How is it determined?
Why is the required rate of return for a stock the discount rate to be used in valuation analysis?
Why can earnings not be used as readily as dividends in the present value approach?
What is the dividend discount model (DDM)? Write this model in equation form.
What problems are encountered in using the DDM?
Describe the three possibilities for dividend growth. Which is the most likely to apply to the typical company?
Since dividends are paid to infinity, how is this problem handled in the present value analysis?
Demonstrate how the DDM is the same as a method that includes a specified number of dividends and a terminal price
Assume that two investors are valuing General Foods Company and have agreed to use the constant‐growth version of the DDM. Both use $3 a share as the expected dividend for the coming year. Are
Once an investor calculates intrinsic value for a particular stock, how does he or she decide whether or not to buy it?
How valuable are the trailing 12‐month P/E ratios typically shown for stocks?
The P/E ratio can be used in valuation analysis in two different ways. Explain.
Many investors prefer a multiplier model to the present value analysis on the grounds that the latter is more difficult to use. State these alleged difficulties and respond to them.
Is it always correct to say that the valuation of common stocks is an art and not a science?
Assume you are trying to value a company using relative valuation techniques, but the company has no earnings. Which techniques could you use?
List two advantages of using the price/sales ratio as a valuation technique. How is this ratio calculated without using per‐share numbers?
Do you think cash flow could be used in the valuation of stocks
Is it possible to derive the “true” value of a common stock?
Agree or disagree. Given the three growth rate cases of the DDM, not all of them involve a present value process.
Agree or disagree. Two investors have the same required rate of return. They also have identical expectations about Gritta Corp with regard to its expected dividend and growth rate, and both agree it
Agree or disagree. One of the strong points in favor of using the DDM is that estimates of intrinsic value are not very sensitive to estimates of the expected growth rate in dividends.
Agree or disagree. Using the equation g b ROE ensures that the correct growth rate in dividends is calculated.
Having estimated the expected rate of return on a constant‐growth stock, how can an investor decide whether to buy that stock?
Agree or disagree. Hedge funds that earn very large returns must be commonly using models that correctly determine intrinsic values.
Can a standard index mutual fund outperform its index?
What are the major sources of information used by security analysts in evaluating common stocks?
What is meant by a rotation strategy? What is the key input in implementing effective rotation strategies?
What does the evidence cited on market timing suggest about the likelihood of success in this area?
What is the basic idea behind the efficient market hypothesis?
If more investors became passive investors, how would that affect investment companies?
Vanguard’s S&P 500 Index fund consistently outperforms Morgan Stanley’s S&P 500 Index fund, although both hold the same portfolio of stocks. Ignoring sales charges, what is the obvious reason for
Vanguard’s Health Care Fund (VGHCX) outperformed Vanguard’s S&P 500 Index fund during the period 2000–2005, although it had a higher operating expense ratio. What is the reason for this
What do semistrong market efficiency tests attempt to test for?
If the market moves in an upward trend over a period of years, would this be inconsistent with weak‐form efficiency?
Are filter rules related to timing strategies or stock selection strategies? What alternative should a filter rule be compared with?
Assume that you analyze the activities of insiders and find that they are able to realize consistently above‐average rates of return. What form of the EMH are you testing?
How did the performance of the Euro during 2002– 2004 affect U.S. investors in foreign securities?
On average, how long are business cycle expansions and contractions since WWII?
In general, what should be the relationship between corporate earnings growth and the growth rate for the economy as a whole?
Using the so‐called Fed model relating the earnings yield on the S&P 500 to Treasury bond yields, when would stocks be considered an attractive investment?
Why is so much day‐to‐day news coverage devoted to consumer spending?
Suppose you could correctly predict that the business cycle was approaching a trough. What should your investment strategy for stocks be?
What are the implications of a negatively sloped yield curve for earnings growth and for the economy as a whole
The P/E ratio on the S&P 500 for 1998 and 1999 was 30 or higher. Other things equal, would this indicate a good time to buy stocks for a multiyear holding period or not?
Why is the NAICS coding system said to be superior to SIC codes?
What are the stages in the life cycle for an industry? Can you think of other stages to add?
Name an industry that currently is in each of the four life cycle stages.
Which types of industries are the most sensitive to the business cycle? The least sensitive?
In which stage of the life cycle do investors face the highest risk of losing a substantial part of their investment?
Name the five competitive forces identified by Porter.
The important point of the Porter analysis is that industry structure is a function of industry profitability. Agree or disagree with this statement.
Explain how Figure 14‐2 might be useful to an investor doing industry analysis.Figure 14‐2 Sales Pioneering Expansion Stabilization Time Declining 1 1
How can a stock’s intrinsic value be determined?
What are the limitations of using the dividend discount model to determine intrinsic value?
What does the auditor’s report signify about the financial statements?
Assuming that a firm’s ROA exceeds its interest costs, why would it not be prudent to use vast amounts of debt to boost ROE and EPS?
How persistent are earnings growth rates for individual companies across time?
Assume that Intel announces a 40 percent increase in EPS for its most recent quarter, and the stock price immediately declines 15 percent, while the market as a whole is unchanged. How would you
What is the PEG ratio? Identify one information source where this ratio can be found for individual stocks
How does the Dow theory forecast how long a market movement will last?
Using a moving average, how is a sell signal generated?
Is it possible to prove or disprove categorically the validity of technical analysis?
How do the new contrarians differ from the more traditional contrarians?
Why do stock‐price movements repeat themselves?
Look at the bar chart of the Dow Jones Averages in section C1 of The Wall Street Journal. Does this chart cover a sufficient time period to apply the Dow theory?
Why would technical charts be useful in trying to apply the Dow theory?
When a bond is issued, its coupon rate is set at approximately __________________________.
Why is current yield an incorrect measure of a bond’s return?
YTM can be thought of as the internal rate of return on a bond investment. Agree or disagree, and explain your reasoning.
Given two bonds with identical risk, coupons, and maturity date, with the only difference between the two being that one is callable, which bond will sell for the higher price?
Which bond is more affected by interest‐oninterest considerations?a. Bond A—12 percent coupon, 20 years to maturityb. Bond B—6 percent coupon, 25 years to maturity
What two characteristics of a bond determine its reinvestment rate risk?
The bond price curve is said to have a convex shape. What does this mean in terms of increases and decreases in interest rates relative to changes in bond prices?
When does a bond sell at a discount, based on coupon rate and current yield? A premium?
Agree or disagree: For the typical bond investment, the YTM will seldom equal the RCY.
Agree or disagree: Holding everything else constant, the longer the maturity of a bond, the greater the reinvestment risk.
One analyst states that in valuing bonds she first constructs the theoretical spot rates and then discounts cash flows using these rates. Another analyst interjects that his firm takes a different
Determine the YTM of a 6.5 percent 20‐year bond that pays interest semiannually and is selling for $90.68.
What is the value of a zero‐coupon bond that matures in 20 years, has a maturity of $1 million, and is selling to yield 7.6 percent?
Consider the following two bond issues:Bond A: 5 percent 15‐year bond Bond B: 5 percent 30‐year bonda. Neither bond has an embedded option. Both bonds are trading in the market at the same
Under the expectations theory, long rates must be an average of the present and future short‐term rates. Explain.
What is the difference between the expectations theory and the liquidity preference theory?
Assume a U.S. investor buys French bonds. If the euro weakens, how does that affect the U.S. investor’s dollar‐denominated return?
A U.S. investor buying foreign bonds is selling the dollar. Agree or disagree and explain your reasoning.
When would bond yields be expected to move in the same direction as nominal GDP?
When would an expected increase in inflation negatively impact bond investors?
Why would an increase in the Fed’s federal funds rate target be expected to lead to an increase in the long‐term bond rate?
What is the key factor in analyzing bonds? Why?
Why are yield spreads important to an investor?
Identify and explain at least two passive bond management strategies.

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