Principles of Corporate Finance (Mcgraw-hill/Irwin Series in Finance, Insurance, and Real Estate)
12th Edition
ISBN: 9781259144387
Author: Richard A Brealey, Stewart C Myers, Franklin Allen
Publisher: McGraw-Hill Education
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Textbook Question
Chapter 7, Problem 11PS
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.
Assess the following statement:
1. If investors were indifferent to maturities, the return of any security should equal the
compounded yield of consecutive investments in shorter-term securities.
II. The forward rate is sometimes used as an approximation of the market's consensus
interest rate forecast. The reason is that, if the market had a different
perception, the demand and supply of today's existing two-year and one-year
securities would adjust to capitalize on this information.
III. According to pure expectations theory, the term structure of interest rates is
determined solely by expectations of interest rates.
O Only one statement is correct.
All statements are correct.
O No answer text provided.
O Only one statement is incorrect.
D3)
Finance
Suppose Bond A carried a higher yield than comparable Bond B because of investors’ uncertainty about the future of company B. If you were an investment manager who thought the market was overplaying these fears. In particular, if you thought that yields on Bond A would fall by 50 basis points. Which bonds would you buy or sell? Explain in words.
Chapter 7 Solutions
Principles of Corporate Finance (Mcgraw-hill/Irwin Series in Finance, Insurance, and Real Estate)
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 - Portfolio risk True or false? a. Investors prefer...Ch. 7 - Risk and diversification In which of the following...Ch. 7 - Portfolio risk To calculate the variance of a...Ch. 7 - Portfolio betas Suppose the standard deviation of...Ch. 7 - Portfolio betas A portfolio contains equal...Ch. 7 - Prob. 9PSCh. 7 - Prob. 10PS
Ch. 7 - Stocks vs. bonds Each of the following statements...Ch. 7 - Prob. 12PSCh. 7 - Prob. 13PSCh. 7 - Portfolio risk Hyacinth Macaw invests 60% of her...Ch. 7 - Portfolio risk a) How many variance terms and how...Ch. 7 - Portfolio risk Table 7.9 shows standard deviations...Ch. 7 - Portfolio risk Your eccentric Aunt Claudia has...Ch. 7 - Stock betas There are few, if any, real companies...Ch. 7 - Portfolio risk You can form a portfolio of two...Ch. 7 - Portfolio risk Here are some historical data on...Ch. 7 - Portfolio risk Suppose that Treasury bills offer a...Ch. 7 - Beta Calculate the beta of each of the stocks in...
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Need a deep-dive on the concept behind this application? Look no further. Learn more about this topic, finance and related others by exploring similar questions and additional content below.Similar questions
- Which 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_forwardAssume that inflation is expected to steadily increase in the years ahead, but that the real risk-free rate r*, is expected to remain constant. Which of the following statements is most correct? None of the answers are correct. The treasury yield curve must be upward sloping. If the expectations theory holds, the treasury yield curve must be downward sloping. If the expectations theory holds, the yield curve for corporate securities must be downward sloping.arrow_forwardYou expect market interest rates to increase, while the rest of the market believes there will be a decrease. Which of the following statements about fixed-coupon bonds is most correct? a. Bond yields and prices are expected to rise b. At the maturity date, regardless of changes in market interest rates, a bond price will be equal to the face value plus the coupon. c. You expect the company to increase the coupon payment in response to the increase in market rates. d. As the coupons are fixed, the interest rate change will have no impact on the bond. e. You should invest in long-term bonds rather than short-term securitiesarrow_forward
- Stock A is expected to return 14 percent in a normal economy and lose 21 percent in a recession. Stock B is expected to return 11 percent in a normal economy and 5 percent in a recession. The probability of the economy being normal is 75 percent with a 25 percent probability of a recession. What is the covariance of these two securities? A) .007006 B) .005180 C) .006274 D) .003938 (Don't Hand writing in solution) .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_forwardM2arrow_forward
- 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?arrow_forwardKindly 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_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_forward
- What can you tell just by looking at the above yield curve? Group of answer choices An expectation of falling interest rates suggests trouble in the economy, a rise in bond prices, and a decline for stocks. The economy is expected to do well in the short-run. A correction in bond prices is expected. Bond prices are expected to decline and so the stock market should do extremely well.arrow_forwardWhich of the comments below is the most accurate?a. Long-term bonds have a higher interest rate price danger than short-term bonds, but they have a lower reinvestment rate risk.b. Bonds with higher coupons have higher interest rate price danger, but lower reinvestment rate risk.c. If interest rates stay unchanged for the next five years, the price of a discount bond would still remain unchanged.d. Both b and c are valid statements.e. All of the above claims are true.arrow_forwardSuppose interest rates on Treasury bonds rose from 5% to 9% as a result of higher interest rates in Europe. What effect would this have on the price of an average company's common stock? (Hint: in your explanation consider alternative investment to common stocks; a relatively riskless investment)arrow_forward
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