FINA Chapter 2, 5 and 6 | questions and Answers
Which one of the following statements correctly defines a time value of money
relationship? ** Answ** Time and present value are inversely related, all else held
constant.
You need $25,000 today and have decided to take out a loan at 7 percent for five years.
Which one of the following loans would be the least expensive? Assume all loans
require monthly payments and that interest is compounded on a monthly basis. **
Answ** Amortized loan with equal principal payments.
Which one of these statements related to growing annuities and perpetuities is correct?
** Answ** The present value of a growing perpetuity will decrease if the discount rate
is increased.
Which one of the following statements is correct given the following two sets of project
cash flows? Assume a positive discount rate.
Project A Project B
Year 1 $4,000 $2,000
Year 2 3,000 3,000
Year 3 0 2,000
Year 4 3,000 3,000 ** Answ** Project B is worth less today than Project A.
References
Which one of the following compounding periods will yield the lowest effective annual
rate given a stated future value at year 5 and an annual percentage rate of 10 percent?
** Answ** Annual.
Which one of the following terms is used to describe a loan that calls for periodic
interest payments and a lump sum principal payment? ** Answ** Interest-only loan.
A Canadian consol is best categorized as: ** Answ** A perpetuity.
Which one of the following statements related to loan interest rates is correct? **
Answ** When comparing loans you should compare the effective annual rates.
Which one of the following statements related to annuities and perpetuities is correct?
** Answ** A perpetuity composed of $100 monthly payments is worth more than an
annuity of $100 monthly payments; given equal discount rates.
Which one of the following terms is defined as a loan wherein the regular payments,
including both interest and principal amounts, are insufficient to retire the entire loan
amount, which then must be repaid in one lump sum? ** Answ** Balloon loan.
,The entire repayment of which one of the following loans is computed simply by
computing one single future value? ** Answ** Pure discount loan.
Amortized loans must have which one of these characteristics? ** Answ** Either
equal or unequal principal payments over the life of the loan.
You are comparing two annuities that offer quarterly payments of $2,500 for five years
and pay .75 percent interest per month. You will purchase one of these today with a
single lump sum payment. Annuity A will pay you monthly, starting today, while annuity
B will pay monthly, starting one month from today. Which one of the following
statements is correct concerning these two annuities? ** Answ** Annuity B has a
smaller present value than annuity A.
An ordinary annuity is best defined by which one of the following? ** Answ** Equal
payments paid at the end of regular intervals over a stated time period.
An interest rate on a loan that is compounded monthly but expressed as an annual rate
would be an example of which one of the following rates? ** Answ** Effective annual
rate.
An amortized loan: ** Answ** May have equal or increasing amounts applied to the
principal from each loan payment.
You have some property for sale and have received two offers. The first offer is for
$89,500 today in cash. The second offer is the payment of $35,000 today and an
additional guaranteed $70,000 two years from today. If the applicable discount rate is
11.5 percent, which offer should you accept and why? ** Answ** You should accept
the second offer because it has the larger net present value.
The interest rate that is most commonly quoted by a lender is referred to as which one
of the following? ** Answ** Annual percentage rate.
Which one of the following statements concerning interest rates is correct? ** Answ**
The effective annual rate equals the annual percentage rate when interest is
compounded annually.
How is the principal amount of an interest-only loan repaid? ** Answ** The principal
is repaid in one lump sum at the end of the loan period.
You are considering two projects with the following cash flows:
Project X Project Y
Year 1 $8,500 $7,000
Year 2 8,000 7,500
Year 3 7,500 8,000
,Year 4 7,000 8,500
Which one of the following statements is true concerning these two projects given a
positive discount rate? ** Answ** Project X has both a higher present and a higher
future value than Project Y.
Which one of the following accurately defines a perpetuity? ** Answ** Unending
equal payments paid at equal time intervals.
Your credit card charges you 1.5 percent interest per month. This rate when multiplied
by 12 is called the: ** Answ** Annual percentage rate.
You are comparing two investment options that each pay 6 percent interest,
compounded annually. Both options will provide you with $12,000 of income. Option A
pays $2,000 the first year followed by two annual payments of $5,000 each. Option B
pays three annual payments of $4,000 each. Which one of the following statements is
correct given these two investment options? Assume a positive discount rate. **
Answ** You should accept the $200,000 because the payments are only worth
$195,413 to you today.
A loan where the borrower receives money today and repays a single lump sum on a
future date is called a(n) _____ loan. ** Answ** Pure discount.
Which one of the following relationships is stated correctly? ** Answ** Decreasing
the time to maturity increases the price of a discount bond, all else constant.
Which one of the following risks would a floating-rate bond tend to have less of as
compared to a fixed-rate coupon bond? ** Answ** Interest rate risk
Nadine is a retired widow who is financially dependent upon the interest income
produced by her bond portfolio. Which one of the following bonds is the least suitable
for her to own? ** Answ** 7- year income bond.
Which one of the following statements is false concerning the term structure of interest
rates? ** Answ** The term structure of interest rates and the time to maturity are
always directly related.
Which one of the following statements is correct? ** Answ** The real rate must be
less than the nominal rate given a positive rate of inflation.
A premium bond that pays $60 in interest annually matures in seven years. The bond
was originally issued three years ago at par. Which one of the following statements is
accurate in respect to this bond today? ** Answ** The yield-to-maturity is less than
the coupon rate.
, Al is retired and his sole source of income is his bond portfolio. Although he has
sufficient principal to live on, he only wants to spend the interest income and thus is
concerned about the purchasing power of that income. Which one of the following
bonds should best ease Al's concerns? ** Answ** 5-year TIPS
DLQ Inc. bonds mature in 12 years and have a coupon rate of 6 percent. If the market
rate of interest increases, then the: ** Answ** Market price of the bond will
decrease.
You own a bond that has a 6 percent annual coupon and matures five years from now.
You purchased this 10-year bond at par value when it was originally issued. Which one
of the following statements applies to this bond if the relevant market interest rate is
now 5.8 percent? ** Answ** You will realize a capital gain on the bond if you sell it
today.
Which one of the following applies to a premium bond? ** Answ** Coupon rate >
current yield > yield to maturity.
A zero coupon bond: ** Answ** Has more interest rate risk than a comparable
coupon bond.
Which one of the following relationships applies to a par value bond? ** Answ**
Coupon rate = current yield = yield-to-maturity
Last year, you purchased a TIPS at par. Since that time, both market interest rates and
the inflation rate have increased by .25 percent. Your bond has most likely done which
one of the following since last year? ** Answ** Maintained a fixed real rate of return.
Round Dot Inns is preparing a bond offering with a coupon rate of 6 percent, paid
semiannually, and a face value of $1,000. The bonds will mature in 10 years and will be
sold at par. Given this, which one of the following statements is correct? ** Answ**
The bonds will sell at a premium if the market rate is 5.5 percent.
Which one of the following statements concerning bond ratings is correct? ** Answ**
Split-rated bonds are called crossover bonds.
The interest rate risk premium is the: ** Answ** Compensation investors demand for
accepting interest rate risk.
Road Hazards has 12-year bonds outstanding. The interest payments on these bonds
are sent directly to each of the individual bondholders. These direct payments are a
clear indication that the bonds can accurately be defined as being issued:
At par. ** Answ** In registered form.
A call-protected bond is a bond that: ** Answ** Cannot be called at this point in time.
Which one of the following statements correctly defines a time value of money
relationship? ** Answ** Time and present value are inversely related, all else held
constant.
You need $25,000 today and have decided to take out a loan at 7 percent for five years.
Which one of the following loans would be the least expensive? Assume all loans
require monthly payments and that interest is compounded on a monthly basis. **
Answ** Amortized loan with equal principal payments.
Which one of these statements related to growing annuities and perpetuities is correct?
** Answ** The present value of a growing perpetuity will decrease if the discount rate
is increased.
Which one of the following statements is correct given the following two sets of project
cash flows? Assume a positive discount rate.
Project A Project B
Year 1 $4,000 $2,000
Year 2 3,000 3,000
Year 3 0 2,000
Year 4 3,000 3,000 ** Answ** Project B is worth less today than Project A.
References
Which one of the following compounding periods will yield the lowest effective annual
rate given a stated future value at year 5 and an annual percentage rate of 10 percent?
** Answ** Annual.
Which one of the following terms is used to describe a loan that calls for periodic
interest payments and a lump sum principal payment? ** Answ** Interest-only loan.
A Canadian consol is best categorized as: ** Answ** A perpetuity.
Which one of the following statements related to loan interest rates is correct? **
Answ** When comparing loans you should compare the effective annual rates.
Which one of the following statements related to annuities and perpetuities is correct?
** Answ** A perpetuity composed of $100 monthly payments is worth more than an
annuity of $100 monthly payments; given equal discount rates.
Which one of the following terms is defined as a loan wherein the regular payments,
including both interest and principal amounts, are insufficient to retire the entire loan
amount, which then must be repaid in one lump sum? ** Answ** Balloon loan.
,The entire repayment of which one of the following loans is computed simply by
computing one single future value? ** Answ** Pure discount loan.
Amortized loans must have which one of these characteristics? ** Answ** Either
equal or unequal principal payments over the life of the loan.
You are comparing two annuities that offer quarterly payments of $2,500 for five years
and pay .75 percent interest per month. You will purchase one of these today with a
single lump sum payment. Annuity A will pay you monthly, starting today, while annuity
B will pay monthly, starting one month from today. Which one of the following
statements is correct concerning these two annuities? ** Answ** Annuity B has a
smaller present value than annuity A.
An ordinary annuity is best defined by which one of the following? ** Answ** Equal
payments paid at the end of regular intervals over a stated time period.
An interest rate on a loan that is compounded monthly but expressed as an annual rate
would be an example of which one of the following rates? ** Answ** Effective annual
rate.
An amortized loan: ** Answ** May have equal or increasing amounts applied to the
principal from each loan payment.
You have some property for sale and have received two offers. The first offer is for
$89,500 today in cash. The second offer is the payment of $35,000 today and an
additional guaranteed $70,000 two years from today. If the applicable discount rate is
11.5 percent, which offer should you accept and why? ** Answ** You should accept
the second offer because it has the larger net present value.
The interest rate that is most commonly quoted by a lender is referred to as which one
of the following? ** Answ** Annual percentage rate.
Which one of the following statements concerning interest rates is correct? ** Answ**
The effective annual rate equals the annual percentage rate when interest is
compounded annually.
How is the principal amount of an interest-only loan repaid? ** Answ** The principal
is repaid in one lump sum at the end of the loan period.
You are considering two projects with the following cash flows:
Project X Project Y
Year 1 $8,500 $7,000
Year 2 8,000 7,500
Year 3 7,500 8,000
,Year 4 7,000 8,500
Which one of the following statements is true concerning these two projects given a
positive discount rate? ** Answ** Project X has both a higher present and a higher
future value than Project Y.
Which one of the following accurately defines a perpetuity? ** Answ** Unending
equal payments paid at equal time intervals.
Your credit card charges you 1.5 percent interest per month. This rate when multiplied
by 12 is called the: ** Answ** Annual percentage rate.
You are comparing two investment options that each pay 6 percent interest,
compounded annually. Both options will provide you with $12,000 of income. Option A
pays $2,000 the first year followed by two annual payments of $5,000 each. Option B
pays three annual payments of $4,000 each. Which one of the following statements is
correct given these two investment options? Assume a positive discount rate. **
Answ** You should accept the $200,000 because the payments are only worth
$195,413 to you today.
A loan where the borrower receives money today and repays a single lump sum on a
future date is called a(n) _____ loan. ** Answ** Pure discount.
Which one of the following relationships is stated correctly? ** Answ** Decreasing
the time to maturity increases the price of a discount bond, all else constant.
Which one of the following risks would a floating-rate bond tend to have less of as
compared to a fixed-rate coupon bond? ** Answ** Interest rate risk
Nadine is a retired widow who is financially dependent upon the interest income
produced by her bond portfolio. Which one of the following bonds is the least suitable
for her to own? ** Answ** 7- year income bond.
Which one of the following statements is false concerning the term structure of interest
rates? ** Answ** The term structure of interest rates and the time to maturity are
always directly related.
Which one of the following statements is correct? ** Answ** The real rate must be
less than the nominal rate given a positive rate of inflation.
A premium bond that pays $60 in interest annually matures in seven years. The bond
was originally issued three years ago at par. Which one of the following statements is
accurate in respect to this bond today? ** Answ** The yield-to-maturity is less than
the coupon rate.
, Al is retired and his sole source of income is his bond portfolio. Although he has
sufficient principal to live on, he only wants to spend the interest income and thus is
concerned about the purchasing power of that income. Which one of the following
bonds should best ease Al's concerns? ** Answ** 5-year TIPS
DLQ Inc. bonds mature in 12 years and have a coupon rate of 6 percent. If the market
rate of interest increases, then the: ** Answ** Market price of the bond will
decrease.
You own a bond that has a 6 percent annual coupon and matures five years from now.
You purchased this 10-year bond at par value when it was originally issued. Which one
of the following statements applies to this bond if the relevant market interest rate is
now 5.8 percent? ** Answ** You will realize a capital gain on the bond if you sell it
today.
Which one of the following applies to a premium bond? ** Answ** Coupon rate >
current yield > yield to maturity.
A zero coupon bond: ** Answ** Has more interest rate risk than a comparable
coupon bond.
Which one of the following relationships applies to a par value bond? ** Answ**
Coupon rate = current yield = yield-to-maturity
Last year, you purchased a TIPS at par. Since that time, both market interest rates and
the inflation rate have increased by .25 percent. Your bond has most likely done which
one of the following since last year? ** Answ** Maintained a fixed real rate of return.
Round Dot Inns is preparing a bond offering with a coupon rate of 6 percent, paid
semiannually, and a face value of $1,000. The bonds will mature in 10 years and will be
sold at par. Given this, which one of the following statements is correct? ** Answ**
The bonds will sell at a premium if the market rate is 5.5 percent.
Which one of the following statements concerning bond ratings is correct? ** Answ**
Split-rated bonds are called crossover bonds.
The interest rate risk premium is the: ** Answ** Compensation investors demand for
accepting interest rate risk.
Road Hazards has 12-year bonds outstanding. The interest payments on these bonds
are sent directly to each of the individual bondholders. These direct payments are a
clear indication that the bonds can accurately be defined as being issued:
At par. ** Answ** In registered form.
A call-protected bond is a bond that: ** Answ** Cannot be called at this point in time.
