# Expert Answers

1. Stocks A and B both have an expected return of 10% and a standard deviation of returns of 25%. Stock A has a beta of 0.8 and Stock B has a beta of 1.2. The correlation coefficient between the two stocks is 0.6. Portfolio P is a portfolio with 50% invested in Stock A and 50% invested in B. Which of the following statements is CORRECT?

a. Portfolio P has a standard deviation of 25% and a beta of 1.0

b. Portfolio P is a market portfolio

c. Portfolio P has more market risk than Stock A but less market risk than Stock B

d. Stock A should have a higher expected return than Stock B

2. A firm has a required return on equity of 14% and an after-tax cost of debt of 6%. What debt to equity ratio should be used in order to keep the WACC at 10%?

a. 0.5

b. 0.75

c. 1.00

d. 1.50

3. A portfolio consists of two assets: Stock ABC and the risk-free asset (T-bills). Stock ABC has a beta of 1.2 and an expected return of 14%. The risk-free asset currently earns 4%. If the portfolio of the two assets has a beta of 0.8, what are the weightings of the two assets in the portfolio?

a. Risk-free asset = 3%, stock ABC = 97%

b. Risk-free asset = 67%, stock ABC = 33%

c. Risk-free asset = 50%, stock ABC = 50%

d. Risk-free asset = 33%, stock ABC = 67%

5. One can apply the concept in the economic order quantity model to the management of cash balance. In this case, the “inventory” is the amount of cash kept in the company, and the “order cost” would be the variable cost associated with ordering cash each time. The “carrying cost” would be the interest rate that one could have earned from investing the spare cash. The “annual usage” would be the cash flow required annually.

Suppose you can invest spare cash in Canadian Treasury bills at an annual interest rate of 6%, but every sale of bills costs you $10. Your firm pays out cash at an expected rate of $10,500 per month. How much Treasury bills that you should sell at one time? How often should you sell T-bills per month?

a. $5,620.33, 1.5 times a month

b. $3,742.61, 2.0 times a month

c. $6,480.74, 1.6 times a month

d. 2,331.36, 3.1 times a month

a. Portfolio P has a standard deviation of 25% and a beta of 1.0

b. Portfolio P is a market portfolio

c. Portfolio P has more market risk than Stock A but less market risk than Stock B

d. Stock A should have a higher expected return than Stock B

2. A firm has a required return on equity of 14% and an after-tax cost of debt of 6%. What debt to equity ratio should be used in order to keep the WACC at 10%?

a. 0.5

b. 0.75

c. 1.00

d. 1.50

3. A portfolio consists of two assets: Stock ABC and the risk-free asset (T-bills). Stock ABC has a beta of 1.2 and an expected return of 14%. The risk-free asset currently earns 4%. If the portfolio of the two assets has a beta of 0.8, what are the weightings of the two assets in the portfolio?

a. Risk-free asset = 3%, stock ABC = 97%

b. Risk-free asset = 67%, stock ABC = 33%

c. Risk-free asset = 50%, stock ABC = 50%

d. Risk-free asset = 33%, stock ABC = 67%

5. One can apply the concept in the economic order quantity model to the management of cash balance. In this case, the “inventory” is the amount of cash kept in the company, and the “order cost” would be the variable cost associated with ordering cash each time. The “carrying cost” would be the interest rate that one could have earned from investing the spare cash. The “annual usage” would be the cash flow required annually.

Suppose you can invest spare cash in Canadian Treasury bills at an annual interest rate of 6%, but every sale of bills costs you $10. Your firm pays out cash at an expected rate of $10,500 per month. How much Treasury bills that you should sell at one time? How often should you sell T-bills per month?

a. $5,620.33, 1.5 times a month

b. $3,742.61, 2.0 times a month

c. $6,480.74, 1.6 times a month

d. 2,331.36, 3.1 times a month

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