When Treasury yields increasedrecently, we observed that stock prices generally declined and thathi-tech stocks slumped much more than cyclical stocks. The folloiwng statements attempt to explain these phenomena.

1) Treasury yields measure therisk-free return. The required return on a risky asset such as a stock is the sum of therisk-free rate and the risk premium on the risky asset. When therisk-free rateincreases, so does the required return on a stock. Because astock's value is the present value of future cashflows, this value will be lower when the required return(used as the discount rate in the present valuecalculation) is higher.

2) When the discount rateincreases, the present value of cash flows occuring in the far future drops more severely than the present value of cash flows occurring in the near futuredoes, simply because of the greater power term in the denomintor associated with times farther in the future. Althoughhi-tech firms may not generate decent cash flows in the nearfuture, people anticipate them to generate large cash flows in the farther future based in their growth potential(think ofTesla).

This is whyhi-tech firm's stock prices tend to drop more than cyclical stocks when the discount rate increases.

3) An increase in Treasury yields means investors are chasing Treasury bonds and pushing their prices up. Wheninvestors' interest and money move to the bondmarket, the stock market suffers and stock prices drop.

4) Higher Treasury yields indicate higher borrowing costs in the bond market. Higher bond yields hurthi-tech firms more than cyclical firms becausehi-tech firms usually borrow more in the bond market than cyclical firms.

Whichstatement(s) arecorrect?

A) 3 and 4

B) 2 and 3

C) 1 and 2

D) 4 and 1