PRIN.OF CORPORATE FINANCE
13th Edition
ISBN: 9781260013900
Author: BREALEY
Publisher: RENT MCG
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Textbook Question
Chapter 7, Problem 6PS
Stocks vs. bonds Each of the following statements is dangerous or misleading. Explain why.
- a. A long-term U.S. government bond is always absolutely safe.
- b. All investors should
prefer stocks to bonds because stocks offer higher long-runrates of return . - c. The best practical
forecast of future rates of return on the stock market is a 5- or 10-year average of historical returns.
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Students have asked these similar questions
Which of the following statements is CORRECT?
a. If the Federal Reserve unexpectedly announces that it expects inflation to increase, then we would probably observe an immediate increase in bond prices.
b. The total yield on a bond is derived from dividends plus changes in the price of the bond.
c. Bonds are generally regarded as being riskier than common stocks, therefore bonds have higher required returns.
d. Bonds issued by larger companies always have lower yields to maturity (due to less risk) than bonds issued by smaller companies.
e. The market price of a bond will always approach its par value as its maturity date approaches, provided the bond's required return remains constant.
THE ANSWER IS NOT E OR B, apparently, but please let me know if you really think one of those choices are correct.
Long-term-government securities maybe preferred over short-term government securities by analysts because which of the following statement is most accurate?
A. Shares are also a form of long term investment
B. They are a preferred form of investment
C. Shares are also a form of long term investment and therefore their returns are similar.
D. They are considered more risk free
E. None of the options provided.
2.For a stock with a measured(levered) beta of 1.2 estimated its asset beta if the tax rate is 30% and the D/E ratio is 80%, which of the following is correct?
A.0.77 B. 0.94 C. 0.83 D.1.5 E.None of the options provided.
Preferred stock is a hybrid security, explain.ii. If interest rates are on a rising trend, which would you rather be holding, long-term
bonds or short-term bonds? Why? Which type of bonds have the greater interest-rate risk?
iii. One of your best friends, an expert in finance, has just given you the following advice:“Long-term bonds are a great investment because their interest rates are over 20-25%.” How do you evaluate this statement? Is your friend necessarily correct?iv. What is the difference between bonds with call- provisions and sinking-fundprovisions? Which one is riskier from investors (holders) point of view?v. Suppose International arbitration court imposes a fine of $ 2 billions on a country,what are the likely effects of this event on the bond yields and bond prices of thatcountry.vi. If required rate of return is lower than expected return of a security, is this securityovervalued or undervalued? Will you buy this asset or sell it?
Chapter 7 Solutions
PRIN.OF CORPORATE FINANCE
Ch. 7 - Rate of return The level of the Syldavia market...Ch. 7 - Real versus nominal returns The Costaguana stock...Ch. 7 - Arithmetic average and compound returns Integrated...Ch. 7 - Risk premiums Here are inflation rates and U.S....Ch. 7 - Risk Premium Suppose that in year 2030, investors...Ch. 7 - Stocks vs. bonds Each of the following statements...Ch. 7 - Expected return and standard deviation A game of...Ch. 7 - Standard deviation of returns The following table...Ch. 7 - Average returns and standard deviation During the...Ch. 7 - Prob. 10PS
Ch. 7 - Prob. 11PSCh. 7 - Diversification Here are the percentage returns on...Ch. 7 - Risk and diversification In which of the following...Ch. 7 - Prob. 14PSCh. 7 - Portfolio risk To calculate the variance of a...Ch. 7 - Portfolio risk a) How many variance terms and how...Ch. 7 - Portfolio risk Table 7.8 shows standard deviations...Ch. 7 - Portfolio risk Hyacinth Macaw invests 60% of her...Ch. 7 - Stock betas What is the beta of each of the stocks...Ch. 7 - Stock betas There are few, if any, real companies...Ch. 7 - Portfolio betas A portfolio contains equal...Ch. 7 - Portfolio betas Suppose the standard deviation of...Ch. 7 - Portfolio risk Here are some historical data on...Ch. 7 - Portfolio risk Suppose that Treasury bills offer a...
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- Kindly provide brief answers to the following: i. preferred stock is hybrid security, explain. ii.if there is a decline in interest rates which would you rather be holding, long-term bonds or short-term bonds? Which type of bond has the greater interest-rate risk? iii. One of your best friends, an expert in finance, has just given you the following advice: "long-term bonds are a great investment because there interest rates are over 20-25%," how do you evaluate this statement? Is your friend necessarily correct? iv. What is the difference between bond with- call provisions and sinking-fund provisions? Which one is riskier from investors (holders) points of view? v. Suppose international arbitration court imposes a fine of $ 2 billion in a country, what are the likely effect of this event on the bond yields and bond prices of the country. vi. If required rate of return is higher than expected return of security, is this security overvalued? Will you buy this asset or sell it?arrow_forwardWhich of these statements about bond markets is TRUE? * Bond markets include both equity and debt instruments having longer maturities than one year. Bonds are always safer to invest in than stocks. The bond is selling at a discount if current market rates are higher than the coupon rate. All of these are correct. None of these is correct.arrow_forwardFor the cost of equity (stock) is it better to use the current US Treasury bill rate or a longer-termgovernment bond rate as the risk-free rate of return?Does the rate you use as the risk-free rate have an impact on what market premium might beappropriate? Historically, large-company stocks have earned an average return of 12.1% per annum, while US Treasury bills and long-term government bonds have earned average returns of 3.5% and5.9% respectively.arrow_forward
- Consider the following scenario analysis: RATE OF RETURN Stocks &Bonds Scenario Probability Stocks Bonds Recession 0.20 −9% 21% Normal economy 0.70 22 9% Boom 0.10 25 5% a. Is it reasonable to assume that Treasury bonds will provide higher returns in recessions than in booms? Yes or No b. Calculate the expected rate of return and standard deviation for each investment. (Do not round intermediate calculations. Enter your answers as a percent rounded to 1 decimal place.) Expected Rate of Return Standard Deviation Stocks % % Bonds % %arrow_forwardConsider the following scenario analysis: Rate of Return Scenario Probability Stocks Bonds Recession 0.20 −4 % 16 % Normal economy 0.50 18 % 9 % Boom 0.30 29 % 6 % a. Is it reasonable to assume that Treasury bonds will provide higher returns in recessions than in booms? Yes or No b. Calculate the expected rate of return and standard deviation for each investment. (Do not round intermediate calculations. Enter your answers as a percent rounded to 1 decimal place.) Expected Rate of Return Standard deviation Stock Bond c. Which investment would you prefer?arrow_forwarda. The historical yield spread between AAA bonds and Treasury bonds widened dramatically during the financial crisis in 2008. If you believed that the spread would soon return to more typical historical levels, what should you have done?b. This would be an example of what sort of bond swap?arrow_forward
- 1) How might a portfolio manager use financial futures to hedge risk in each of the following circumstances:a. You own a large position in a relatively illiquid bond that you want to sell.b. You have a large gain on one of your Treasuries and want to sell it, but you would like to defer the gain until the next tax year.c. You will receive your annual bonus next month that you hope to invest in long-term corporate bonds. You believe that bonds today are selling at quite attractive yields, and you are concerned that bond prices will rise over the next few weeks. ------------------------------------------------------------------------- 2) The S&P portfolio pays a dividend yield of 1% annually. Its current value is 1,300. The T-bill rate is 4%. Suppose the S&P futures price for delivery in 1 year is 1,330. I know that the value of future contract is $1,339, which is priced at $1,330, the contract is under priced by $9. Because, Value of future contract = Current Value x (1 + Risk…arrow_forwardWhich of the following statements correctly describes the relationship between a long-term bond’s market value, its coupon rate and the relevant yield to maturity? Group of answer choices A) More than one of the other statements are correct B) None of the other statements are correct C) A government bond with a fixed coupon rate may be valued below its’ face value even though the promised cash flows are effectively riskless. D) If at any point in the bond’s life its coupon rate is less than the market determined yield to maturity, its market value at that time will be less than the face value of the bond. E) When bonds are initially issued, the coupon rate is generally set equal to the required yield to maturity so that the company can issue the bonds at their face value.arrow_forwardConsider the following scenario analysis A. Is it reasonable to assume that treasury bonds will provide higher returns in recessions than in booms? B. Calculate the expected rate of return and standard deviation for each investment. C. What investment would you prefer?arrow_forward
- Rate the following statement as True of False: "Although, Convexity is listed as a 'risk' to bond investors, it is actually a benefit to investors who own bonds. This is because when a bond has high convexity an investor will make more money for a given drop in interest rates, than he or she will lose given the same magnitude increase in interest rates. Thus, more convexity means more potential upside relative to downside for a bond investor, given that yields are equally likely to move up or down by the same amount." True of False?arrow_forwardTrue of False Bond holders have voting rights and common shareholders do not. Because the likelihood of the U.S. Government paying back their debts is nearly 100%, U.S. bonds are classified as "risk free" investments. In general, a project or investment with a high standard deviation is viewed as less risky than one with a low standard deviation. When the present value of a bond exceeds the future value of the bond, it is selling at a premium. Preferred stock has an advantage over common stock because preferred shareholders have voting rights and common stock holders do not.arrow_forwardIf investors are uncertain that a corporate bond issuer will make all of the bond payments as promised, the investors will demand a higher yield in the form of: Select one: a. An increased real rate of interest. b. An increased interest rate risk premium. c. An increased default risk premium. d. An increased inflation premium. e. An increased liquidity risk premium.arrow_forward
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