FIN 3636 : FIN 3636 Final Review 1

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azuremammoth471

15 Mar 2019

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Term structure of interest rates: unbiased expectations theory at any given point, the yield curve reflects the market"s current expectations of future short-term rates. According to the unbiased expectations theory, the return for holding a 4-year bond to maturity should equal the expected return for investing in four successive 1-year bonds (as long as the market is in equilibrium) Chapter 3: liquidity premium theory long-term rates are equal to geometric averages of current and expected short-term rates, plus liquidity risk premiums that increase with the security"s maturity. Longer maturities on securities mean greater market and liquidity risk. So, investors will hold long-term maturities only when they are offered at a premium to compensate for future uncertainty in the security"s value. The liquidity premium increases as maturity increases: market segmentation theory assumes that investors do not consider securities with different maturities as perfect substitutes.

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12. Company HDE is expected to pay an interim dividend of $1.00 six months from now and a final
dividend of $2.10 one year from now. HDE is then expected to repeat the same pattern every year
for the foreseeable future with no growth in dividends. Given that the appropriate effective
discount rate is 7.0% p.a., what is the stock price of HDE closest to today?
A) $30
B) $35
C) $40
D) $45
E) None of the above
13. Which of the following statements is FALSE?
A) The process of moving a value or cash flow forward in time is known as compounding.
B) The effect of earning interest on interest is known as compound interest.
C) It is only possible to compare or combine values at the same point in time.
D) A dollar in the future is worth more than a dollar today.
E) Interest paid only on the principal is simple interest.
14. Consider the following four alternatives:
1. $132 received in two years.
2. $160 received in five years.
3. $200 received in eight years.
4. $220 received in ten years.
The ranking of the four alternatives from most valuable to least valuable if the interest rate is
7% per year would be:
A) 1, 2, 3, 4
B) 4, 3, 2, 1
C) 3, 4, 2, 1
D) 3, 1, 2, 4
E) 3, 1 = 2, 4

QUESTION 1 The time value of money refers to the issue of: A. what the value of the stream of future cash flows is today. B. why a dollar received tomorrow is worth more than a dollar received today. C. what the time required to double an amount of money. D. why people prefer to consume things at some time in the future rather than today.

QUESTION 2 The process of converting an amount given at the present time into a future value is called: A. annualizing. B. discounting. C. compounding. D. capital budgeting. 2 points

QUESTION 3 Juan Vinson is planning to buy a house in five years. He is looking to invest $25,000 today in an index mutual fund that will provide him a return of 12 percent annually. How much will he have at the end of five years? (Round to the nearest dollar.) A. $45,000 B. $28,000 C. $44,059 D. $28,530 2 points

QUESTION 4 Which of the following statements is true with respect to the present value of a future amount? A. The higher the discount rate, the higher the present value of a single sum for a given time period. B. The relation between present value and time is exponential. C. The greater the time period, the higher the present value of a single sum for a given interest rate. D. The lower the discount rate, the lower the present value of a single sum for a given time period. 2 points

QUESTION 5 Which of the following statements is true of the rule of 72? A. It can be used to determine the amount of time it takes to double an investment. B. It is fairly accurate for interest rates between 25 and 50 percent. C. It states that the time to double your money (TDM) approximately equals 72/i, where i represents the years it takes to double your investment. D. It can be used to estimate approximate compound interest earned for a period of 72 days. 2 points

QUESTION 6 The present value of future cash flows are computed by multiplying future value with the: A. discounting factor. B. compound factor. C. interest rate. D. number of periods. 2 points

QUESTION 7 The present value of multiple cash flows is: A. greater than the sum of the cash flows. B. equal to the sum of all the cash flows. C. less than the sum of the cash flows. D. higher or lower than the cash flows depending on the interest rate. 2 points

QUESTION 8 Cash flows associated with annuities are considered to be: A. an uneven cash flow stream. B. a constant cash flow stream. C. a mix of constant and uneven cash flow streams. D. a cash flow stream with decreasing trend. 2 points

QUESTION 9 The annuity transformation method is used to transform: A. a present value annuity to a future value annuity. B. a present value annuity to an annuity due. C. an ordinary annuity to an annuity due. D. a perpetuity to an annuity. 2 points

QUESTION 10 The true cost of borrowing is the: A. annual percentage rate. B. effective annual rate. C. quoted interest rate. D. periodic rate.

You, a foreign exchange trader for Green Valley Capital, are exploring covered interest arbitrage opportunities between Euros (C) and US Dollar ($) for the next 60 days.

You have â¬ 1 million or $ 1.1 million at the current spot rate for the covered interest arbitrage and face the following quotes:

Arbitrage fund available	â¬1,000,000 or $1,100,000
Spot exchange rate	$1.1000/C
60-day forward rate	$1.1040/C
US Dollar annual interest rate	1.8%
Euro annual interest rate	0.90%

1(A) What is the annual effective US Dollar interest rate from Euro investment?

1(B) Show the steps and calculate the amount of the covered interest arbitrage profit

1(C) Determine a theoretical 6o-day forward rate (round to 4 decimal places) that will result in a zero covered interest arbitrage profit.

1(D) The following appeared in the Feb. 4, 2016 Wall Street Journal article "Dollar Continues to Fall Ahead of Friday's Jobs Report":

Investors have been fleeing the dollar in recent days, amid expectation that the Federal Reserve won't be able to raise interest rates as much as expected this year due to soft growth in the U.S. and turbulent global markets. Such persistently low interest rates weigh on the U.S. currency, as they make the dollar less attractive to yield-seeking investors. The dollar has now fallen 2.6% against a basket of currencies in February.

Explain (not more than half of a page) the above narrative with the interest rate parity relationship

FIN 3636 : FIN 3636 Final Review 1

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