# Investment Fundamentals and Portfolio

1. Explain the differences between a market order and a limit order for securities.

2. You have identified a stock through the process of stock screening. Define stock screening. List several sources you might access to find information about the stock you identified.

3. Name four different types of expenses that investors incur associated with their investing activities.

4. List five advantages of marketable securities over investments in real assets.

5. Alma Hatch, a securities analyst, has been studying the stock of XYZ Inc. She has estimated that the stock will have the following possible returns and the probabilities associated with those returns:

Return Probability

-0.15 0.10

-0.05 0.20

0.05 0.35

0.15 0.25

0.25 0.10

1. Compute the expected return on XYZ stock.

2. Compute the standard deviation of returns on XYZ.

3. Would you expect the return on the riskless security to be less than, equal to, or greater than the return you computed in part a?

6. Explain the product life cycle and its use in industry analysis.

7. A company has an 8 percent, 10-year bond outstanding with a yield to maturity of 7 percent. The bond is callable at its next interest payment date. If the bond were not callable, its yield would be 6 percent. Evaluate whether an investor should expect this bond to be called.

8. Explain how stock splits and stock dividends affect the prices and valuation of stocks.

9. Define the three approaches to securities analysis and give an example of using each one.

10. Using the information provided below, evaluate the position of Gramco Inc. compared to its industry with respect to its management of inventory, credit rating, and management of accounts receivable. Identify the ratios you use for each of the comparisons.

Ratio Gramco Inc. Industry

Current ratio 2.3 2.2

Receivables turnover 6.4 6.8

Inventory turnover 5.2 7.5

Total asset turnover 3.1 4.9

Net profit margin .032 .031

Leverage 1.5 1.4

Interest coverage 3.7 3.3

Institutional ownership .15 .31

11. Define the principle of diminishing marginal utility of wealth. Explain how the principle leads to the conclusion that investors are risk averse.

12. Identify factors that investors should consider when making the asset allocation decision.

13. Explain how portfolio risk falls when securities in the portfolio have uncorrelated returns.

14. Distinguish among risk-seeking, risk-indifferent, and risk-averse individuals.

15. Describe the four phases of the portfolio management process.

16. Define the three forms of market efficiency.

17. Define the Sharpe, Treynor, and alpha measures of investment portfolio performance.

18. Identify the three principal approaches to portfolio monitoring and revision.

19. Differentiate between an open-end and a closed-end investment company.

20. Identify the advantages that investment companies offer individual investors.

21. Define the two main types of pension plan.

22. Outline the types of expenses paid by investment companies.

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Attached are Sample Questions

1. Explain the differences between a market order and a limit order for securities.

Ans. Limit order are used to buy or sell securities at a specified one which can be changed according to market prevailing price, while market orders instruct the broker to buy and sell securities at market prevailing price.

2. You have identified a stock through the process of stock screening. Define stock screening. List several sources you might access to find information about the stock you identified.

Stock screening is a tool used by investor to filter stock given certain criteria of their choice. The information about the stock is found by

1) Profit and loss account

2) Growth rate

3) Annual reports of the company,

4) Journals,

5) Reports etc.

3. Name four different types of expenses that investors incur associated with their investing activities.

Different types of expenses that investor incur during investing are: -

1) Brokerage

2) Managerial fees

3) Registration charges

4) Operating charges

4. List five advantages of marketable securities over investments in real assets.

Advantages of marketable securities over investment in real assets are: -

1) Stability,

2) Growth,

3) Diversification,

4) Liquidity and

5) Provides attractive yield.

5. Alma Hatch, a securities analyst, has been studying the stock of XYZ Inc. She has estimated that the stock will have the following possible returns and the probabilities associated with those returns:

Return Probability

-0.15 0.10

-0.05 0.20

0.05 0.35

0.15 0.25

0.25 0.10

I. Compute the expected return on XYZ stock.

Return Probability Expected return

-0.15 0.1 -0.015

-0.05 0.2 -0.01

0.05 0.35 0.0175

0.15 0.25 0.0375

0.25 0.1 0.025

Total 0.055

Expected return = 5.5%

II. Compute the standard deviation of returns on XYZ.

Expected return

-0.015

-0.01

0.0175

0.0375

0.025

0.022679837

Standard deviation = 0.022679837

=STDEV (-0.015, -0.01, 0.0175, 0.0375, 0.025) as per excel formula

III. Would you expect the ...

#### Solution Summary

More than 1000 words of well written Answers.

Investment Fundamentals and Portfolio Management: return on stock, holding-period return on investment, margin account, market price per share, value of stock, expected return of the portfolio, beta of the portfolio, CAPM, value of options at expiration

Whopie, market to book value ratio, earnings multiple, Elvis Alive Corporation,

1. John Smith has been reviewing the stock of ABC. John has estimated that the stock will have the following possible returns and probabilities:

Return Probability

-0.15 0.10

-0.05 0.20

0.05 0.35

0.15 0.25

0.25 0.10

a. Compute the expected return on ABC stock.

b. Compute the standard deviation of returns on ABC.

2. A stock sells for $67 per share and pays a quarterly dividend of $0.50. One year later, the stock sells for $76.

a. Compute the holding-period return on this investment.

b. Compute the holding period return assuming that the investor could buy this stock borrowing half of the purchase price at 12 percent per annum interest.

c. Compute the holding period return (including the information from part b) if the investor pays a commission of $0.40 per share on both the purchase and sale transaction.

3. You open a margin account with a brokerage firm. The initial margin requirement is 50 percent, and the maintenance margin requirement is 25 percent. You purchase 100 shares of a stock selling for $40 per share.

a. How much money do you need to have in your margin account to make this purchase? (Ignore commissions.)

b. What is the amount of your margin loan from the broker?

c. If the stock falls to $32, what is the margin in the account?

d. At what stock price will you receive a margin call?

4. What is the market price per share of Whopie, Inc. if the firm had net income of $200,000, earnings per share of $2.70, total equity of $800,000, and a market to book value ratio of 1.5?

5. The companies in the electrical parts industry have an average earnings multiple of 16. John's Parts, Inc. manufactures electrical parts, and you have forecast that the company will earn $3.60 per share and its stock will sell at the industry average multiple 3 years from now. Estimate the value of John's Parts stock in 3 years. If the required rate of return is 14 percent, what is the present value of John's Parts stock?

6. Tom Jones has identified the following securities for a portfolio:

Security Amount Invested Expected Return Beta

A $25,000 0.05 1.4

B $35,000 0.11 0.1

C $5,000 0.15 0.5

D $35,000 0.01 1.9

Compute the expected return of the portfolio. Compute the beta of the portfolio.

7. The Elvis Alive Corporation, makers of Elvis memorabilia, has a beta of 2.35. The return on the market portfolio is 13%, and the risk-free rate is 7%. According to CAPM, what is the risk premium on a stock with a beta of 1.0?

8. Discuss the 3 forms of market efficiency and the evidence for each form of market efficiency.

9. Compute the value of the following options at expiration:

a. An IBM July 90 call when IBM sells for $98

b. An Eastman Kodak April 25 call with the stock priced at $19

c. A Wall-Mart January 60 put with Wal-Mart stock selling for $48

d. A Pfizer October 35 put with the stock priced at $42.