EXPLANATIONS NEEDED (CORRECT ANSWERS WILL BE PROVIDED, BUT WHY ARE THESE THE ANSWERS):

Question 1: Select all that are TRUE (correct answers below)

i. Quality financial statements are a good reflection of reality; accounting tricks and one-time charges are not used to make a firm appear stronger than it really is

ii. Within a specific market, the top-down analyst then searches for the best industries

iii. CML can be applied only to portfolio holdings that are already fully diversified, whereas the SML can be applied to any individual asset or collection of assets

iv. If the intrinsic value of an asset is greater than the market price, you would want to buy the investment

v. The dividend growth models are only meaningful for companies that have a required rate of return that exceeds their dividend growth rate

Question 2: Select all that are FALSE (correct answers below)

i. The combination of two assets that are completely negatively correlated provides maximum returns

ii. The weak form of the efficient market hypothesis contends that stock prices fully reflect all public and private information

iii. The strong form of the efficient market hypothesis contends that only insiders can earn abnormal returns

iv. Fundamentalists contend that past price movements will indicate future price movement

v. If the efficient market hypothesis is true, price changes are independent and biased

Question 18: In a two-stock portfolio, if the correlation coefficient between two stocks were to decrease over time, everything else remaining constant, the portfolio's risk would (correct answer below)

• decrease

Question 23: According to technical analysts, which mutual fund cash position guides investment decisions? (correct answer below)

• A high cash position is a bullish indicator

Question 13: Select the most appropriate match (correct answers below)

i. Securities with returns that lie above the security market line are undervalued

ii. Securities with returns that lie below the security market line are overvalued

iii. An overvalued investment is so expensive that we will not receive a fair return if we bought it

iv. An undervalued investment is so expensive that we will not receive a fair return if we bought it

v. Those who employ the bottom-up approach start their search immediately at the company level

vi. Those who employ the top-down approach end their search immediately at the company level

vii. In a multifactor model, confidence risk represents unanticipated changes in the willingness of investors to take on investment risk

viii. In a multifactor model, time horizon risk represents unanticipated changes in investors' desired time to receive payouts

ix. The capital market line is the tangent line between the risk-free rate of return and the efficient frontier

x. Given a portfolio of stocks, the envelope curve containing the set of best possible combinations is known as the efficient frontier

xi. The optimal portfolio is identified at the point of tangency between the efficient frontier and the highest possible utility curve

Question 19: The correlation between the market return and a risk-free asset would (correct answer below)

• be zero

Question 20: According to Word (2010), which three tributaries form the river of behavioral finance? (correct answer below)

• Behaviorial psychology, social psychology, and neurofinance

Question 21: Studies the relationship between P/E ratios and stock returns have found that (correct answer below)

• low P/E stocks of small cap stocks outperformed high P/E stocks of large cap stocks

Question 12: Using the constant growth model, a decrease in the required rate of return from 15 to 13 percent combined with an increase in the growth rate from 5 to 6 percent would cause the price to (correct answer below)

• rise less than 50 percent

Question 25: Stocks K, L, M each has the sam expected return and standard deviation. The correlation coefficients between each pair of these stocks are:

K and L correlation coefficient 0.75

K and M correlation coefficient 0.25

L and M correlation coefficient -0.4

Given these correlations, a portfolio constructed of which pair of stocks will have the lowest standard deviation? Explain. (correct answer below)

• Correlation coefficients are both positively and negatively perfect at 1.0 and -1.0, respectively. The pair with the lowest standard deviation is L and M at -4.0 because it has the lowest correlation coefficient which indicates a low portfolio variance or standard deviation

Question 26: Differenciate between the Discounted Cash Flow methods of valuation: Dividend discount model, Free Cash flow to the firm discount model, and free cash flow to equity discount model. (NEEDS ANSWER AND EXPLANATION)

Question 24: Briefly discuss the implications of the efficient market hypothesis for investment policy as it applies to:

(i) Technical analysis in the form of charting (iii) Fundamental analysis (NEEDS ANSWER AND EXPLANATION)

Question 22: Tests of the efficient market hypothesis (EMH) are sometimes based on examining its abnormal rate of return. The abnormal rate of return is calculated by (correct answer below)

• subtracting the expected rate of return from the actual return, where the expected return is based on the stock's beta and the CAPM