Reading 56: An Introduction to Security Valuation LOSe习题精 required, investor, expected, following, div

honeycfa

LOS e, (Part 1): Explain the components of an investor's required rate of return (i.e., the real risk-free rate, the expected rate of inflation, and a risk premium).

 

Given the following information, what is the required rate of return on Bin Co?

• inflation premium = 3%
• real risk-free rate = 2%
• Bin Co. beta = 1.3
• market risk premium = 4%

A) 7.6%.

B) 10.2%.

C) 16.7%.

---

Use the capital asset pricing model (CAPM) to find the required rate of return. The approximate risk-free rate of interest is 5% (2% real risk-free rate + 3% inflation premium).

k = 5% + 1.3(4%) = 10.2%.

honeycfa

Which of the following is least likely a risk factor in an equity risk premium for foreign investments?

A) Technology risk.

B) Business risk.

C) Exchange rate risk.

---

Technology risk is not considered a relevant risk factor in assessing a country’s equity risk premium. The relevant factors include business risk, financial risk, liquidity risk, exchange rate risk, and country risk.

honeycfa

The nominal risk-free rate is equal to:

A) one plus the real risk-free rate times one plus expected inflation, minus one.

B) one plus the real risk-free rate times one plus expected inflation.

C) the real risk-free rate minus expected inflation.

---

The nominal risk-free rate is a function of the real risk-free rate and expected inflation:
nominal risk free rate = (1 + real risk-free rate)(1 + expected inflation) – 1
Note that the nominal rate is frequently estimated by summing the real rate and the rate of expected inflation.

honeycfa

Evidence that a firm has high business risk would be provided by its volatile:

A) fixed costs.

B) operating profit.

C) sales.

---

Business risk is one component of k, the required rate of return.

honeycfa

LOS e, (Part 2): Discuss the risk factors to be assessed in determining an equity risk premium for use in estimating the required return for the investment in each country.

The equity risk premium for investing in foreign securities considers which of the following types of risk:

A) company-specific risk.

B) interest rate risk.

C) exchange rate risk.

---

The equity risk premium for foreign investments includes business, financial, liquidity, exchange rate, and country risk.

honeycfa

Which of the following statements regarding an equity risk premium for foreign investments is most accurate?

A) Country risk arises from expected economic and political events.

B) Exchange rate risk is relatively small and can be ignored.

C) Firms in different countries assume significantly different financial risk.

---

Country risk arises from unexpected not expected economic and political events. Exchange rate risk must always be taken into account.

honeycfa

If the real risk-free rate is 5%, and the expected rate of inflation is 1%, what is the estimated nominal risk-free rate?

A) 0.02%.

B) 6.05%.

C) 4.00%.

---

The nominal risk free rate = (1 + Real risk-free rate)(1+ Expected Inflation) – 1, (1.05) x (1.01)-1 = 6.05%.

honeycfa

If expected inflation increases, all else equal, the:

A) nominal risk-free rate will decrease.

B) real market risk premium will increase.

C) nominal risk-free rate will increase.

---

The nominal risk free rate is a function of the real risk-free rate and expected inflation:
Nominal risk free rate = (1 + real risk-free rate)(1 + expected inflation) – 1
If expected inflation increases, but the real risk-free rate stays the same, the nominal risk-free rate will increase.

honeycfa

The real risk-free rate is approximately equal to:

A) the ratio of the nominal risk-free rate to the real expected market risk premium.

B) the nominal risk-free rate minus expected inflation.

C) the nominal risk-free rate plus expected inflation.

---

The nominal risk free rate is a function of the real risk-free rate and expected inflation:
nominal risk free rate = (1 + real risk-free rate)(1 + expected inflation) – 1
@ real risk-free rate + expected inflation

Therefore the real risk-free rate is approximately equal to:
nominal risk-free rate – expected inflation.

honeycfa

The nominal risk-free rate is a function of the real risk-free rate and:

A) the nominal expected market risk premium.

B) expected inflation.

C) the real expected market risk premium.

---

The nominal risk-free rate is a function of the real risk-free rate and expected inflation:
nominal risk free rate = (1 + real risk-free rate)(1 + expected inflation) – 1