Sample Questions and Answers
The price of a call option increases when:
A. The underlying stock price decreases
B. The time to expiration decreases
C. The stock’s volatility decreases
D. The stock’s volatility increases
Answer: D
The efficient market hypothesis (EMH) suggests that:
A. Stocks are always underpriced or overpriced depending on market conditions
B. Stock prices reflect all available information at any given time
C. Market timing can consistently outperform the average market return
D. Investors can consistently achieve superior returns through fundamental analysis
Answer: B
A firm’s operating cycle is:
A. The time taken to produce and sell a product
B. The time between purchasing inventory and receiving cash from sales
C. The time taken to recover a firm’s investment
D. The time between issuing equity and repaying debt
Answer: B
Which of the following is the most appropriate method to evaluate a project’s capital budgeting decision when cash flows are expected to vary over time?
A. Payback period
B. Net present value (NPV)
C. Accounting rate of return (ARR)
D. Internal rate of return (IRR)
Answer: B
The term “diversification” in a portfolio refers to:
A. Spreading investments across different asset classes to reduce risk
B. Focusing all investments in one sector to increase returns
C. Using high-risk assets in the portfolio
D. Taking large positions in foreign stocks
Answer: A
Which of the following is NOT a characteristic of a well-functioning financial market?
A. Liquidity
B. Efficient pricing of securities
C. Restrictions on investor participation
D. Transparency of information
Answer: C
In the case of a stock split, the price per share:
A. Increases, and the number of shares decreases
B. Decreases, and the number of shares increases
C. Increases, and the number of shares increases
D. Decreases, and the number of shares remains unchanged
Answer: B
The primary objective of financial management is:
A. Maximizing profits
B. Maximizing the market value of a company’s stock
C. Minimizing the cost of capital
D. Maximizing earnings before taxes
Answer: B
The internal rate of return (IRR) is defined as the:
A. Discount rate that makes the net present value (NPV) equal to zero
B. Rate of return that guarantees a positive NPV
C. Rate at which the total cash flows are equal to the initial investment
D. Discount rate at which the present value of future cash flows exceeds the initial cost
Answer: A
A firm’s weighted average cost of capital (WACC) is calculated by:
A. Taking the average cost of debt and equity without weights
B. Considering the cost of debt and equity, weighted by their proportions in the capital structure
C. Adding the cost of debt and equity together
D. Dividing the total debt by equity in the capital structure
Answer: B
In the context of the efficient frontier in portfolio theory, a portfolio that lies on the frontier:
A. Has the highest expected return for a given level of risk
B. Has the highest risk for a given level of return
C. Has the lowest risk for a given level of return
D. Is completely risk-free
Answer: A
A firm’s dividend payout ratio is defined as:
The amount of cash paid to shareholders divided by net income
B. The total dividends paid divided by the number of shares outstanding
C. The market value of dividends relative to stock price
D. The total dividends paid divided by total debt
Answer: A
In the Capital Asset Pricing Model (CAPM), the expected return on a stock is:
Equal to the risk-free rate plus the stock’s beta times the market risk premium
B. Equal to the risk-free rate plus the stock’s price-to-earnings ratio
C. Equal to the risk-free rate plus the stock’s standard deviation
D. Equal to the stock’s current dividend yield plus market risk premium
Answer: A
Which of the following is an example of an unsystematic risk?
Interest rate fluctuations
B. Changes in government policies
C. Changes in a company’s management
D. Inflationary pressures
Answer: C
The purpose of diversification in an investment portfolio is to:
Maximize returns by investing in high-risk assets
B. Minimize the overall risk of the portfolio
C. Ensure the portfolio only holds low-risk assets
D. Increase the liquidity of the portfolio
Answer: B
Which of the following is an example of systematic risk?
A firm’s production costs increase
B. A firm faces a lawsuit from an employee
C. The overall stock market experiences a downturn
D. A company introduces a new product
Answer: C
If the price of a bond is above its face value, the bond is:
Trading at a discount
B. Trading at par
C. Trading at a premium
D. Trading at a loss
Answer: C
In a perfect market with no taxes, Modigliani and Miller argue that:
The value of a firm is dependent on its capital structure
B. The value of a firm is unaffected by its capital structure
C. Debt financing is always superior to equity financing
D. Firms should avoid using debt in their capital structure
Answer: B
The cost of debt is generally lower than the cost of equity because:
Debt is riskier for investors than equity
B. Debt payments are tax-deductible
C. Equity investors are guaranteed a return before debt holders
D. Debt holders bear more risk than equity holders
Answer: B
Which of the following is NOT a feature of preferred stock?
It typically pays a fixed dividend
B. It has voting rights in the company
C. It is senior to common stock in the payment of dividends
D. It can be convertible into common stock
Answer: B
In the context of project evaluation, the net present value (NPV) rule suggests that:
Projects should be accepted if the NPV is negative
B. Projects should be accepted if the NPV is positive
C. Projects should be accepted if the NPV equals zero
D. Projects should always be accepted regardless of NPV
Answer: B
The dividend discount model (DDM) is used to estimate:
The price of a bond
B. The price of a stock based on its future dividends
C. The cost of equity
D. The net present value of a project
Answer: B
A company’s capital structure refers to the:
Ratio of debt to equity financing
B. Amount of equity capital held by shareholders
C. Debt repayment schedule
D. Structure of the company’s financial statements
Answer: A
The price of a put option increases when:
The underlying stock price rises
B. The time to expiration increases
C. The stock price volatility decreases
D. The stock’s dividend yield decreases
Answer: B
A company’s cost of equity can be estimated using:
The dividend discount model (DDM)
B. The yield to maturity of the firm’s bonds
C. The firm’s book value of equity
D. The average cost of debt in the firm’s capital structure
Answer: A
In the context of financial markets, liquidity refers to:
The amount of debt a firm has in its capital structure
B. The ability to quickly buy or sell an asset without affecting its price
C. The amount of cash flow a firm generates
D. The profitability of a firm’s operations
Answer: B
The primary advantage of using debt in a firm’s capital structure is:
It increases the firm’s equity base
B. Debt holders are paid only after equity holders
C. Debt financing is less expensive than equity financing
D. The firm can avoid paying taxes
Answer: C
A company is most likely to issue bonds instead of equity when:
The company has high growth opportunities
B. The company has significant debt capacity and lower equity financing costs
C. The stock market is volatile
D. The company is in financial distress
Answer: B
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