Chapter 1 # 9 and 18 9) Lanni Products is a start-up computer software development firm.

It currently owns computer equipment worth $30,000 and has cash on hand of $20,000 contributed by Lanni s owners. For each of the following transactions, identify the real and/or financial assets that trade hands. Are any financial assets created or destroyed in the transaction? a) Lanni takes out a bank loan. It receives $50,000 in cash and signs a note promising to pay back the loan over three years. b) Lanni uses the cash from the bank plus $20,000 of its own funds to finance the development of a new financial planning software. c) Lanni sells the software product to Microsoft, which will market it to the public under the Microsoft name. Lanni accepts payment in the form of 5,000 shares of Microsoft stock. d) Lanni sells the shares of stock for $25 per share and uses part of the proceeds to pay off the bank loan. 18) What is the relationship between securitization and the role of financial intermediaries in the economy? What happens to financial intermediaries as securitization progresses? Chapter 2 # 13, 18, 23, 28 13)suppose that short-term municipal bonds currently offer yields of 4%, while comparable taxable bonds pay 5%. Which gives you the higher after-tax yield if your tax bracket is: a)zero b)10% c)20% d)30% 18) Consider the three stocks in the following table. P(t) represents price at time t, and Q(t) represents shares outstanding at time t. Stock C splits tow for one in the last period. P(o) 90 50 100 Q(o) 100 200 200 P(1) 95 45 110 Q(1) 100 200 200 P(2) 95 45 55 Q(2) 100 200 400

A B C

a) Calculate the rate of return on a price-weighted index of the three stocks for the first period (t=0 to t=1) b) What must happen to the divisor for the price-weighted index in year 2?

c) Calculate the rate of return of the price-weighted index for the second period (t=1 to t=2) 23) Which security should sell at a greater price? a) A 10-year treasury bond with a 9% coupon rate or a 10-year T-bond with a 10% coupon. b) A three-month expiration call option with an exercise price of $40 or a three-month call on the same stock with an exercise price of $35. c) A put option on a stock selling at %50 or a put option on another stock selling at $60. (all other relevant features of the stocks and options are assumed to be identical.) 28) Both a call and a put currently are traded on stock XYZ; both have strike prices of $50 and maturities of six months. What will be the profit to an investor who buys the call for $4 in the following scenarios for stock prices in six months? a) $40 b)$45 c)$50 d)$55 e)$60 f) What will be the profit in each scenario to an investors who buys the put for $6? Chapter 3 # 15-18, 22 15)Consider the following limit order book of a specialist. The last trade in the stock occurred at a price of $50 Limit Buy Orders Price 49.75 49.50 49.25 49.00 48.50 Limit Sell Orders Price 50.25 51.50 54.75 58.25

Shares 500 800 500 200 600

Shares 100 100 300 100

a) If a market buy order for 100 shares comes in, at what price will it be filled? b) At what price would the next market buy order be filled? c) If you were the specialist, would you want to increase or decrease your inventory of this stock?

16) You are bullish on Telecom Stock. The current market price is $50 per share, and you have $5000 of your own to invest. You borrow an additional $5000 from your broker at an interest rate of 8% per year and invest $10,000 in the stock. a) What will be your rate of return if the price of telecom stock goes up by 10% during the next year? (ignore the expected dividend.) b) how far does the price of Telecom stock have to fall for you to get a margin call if the maintenance margin is 30%? Assume the price fall happens immediately. 17) You are bearish on Telecom and decide to sell short 100 shares at the current market price of $50 per share. a) how much in cash or securities must you put into your brokerage account if the broker s initial margin requirement is 50% of the value of the short position? b) how high can the price of the stock go before you get a margin call if the maintenance margin is 30% of the value of the short position? 18) Here is some price information on Marriott: Bid Asked Marriott 19.95 20.05 You have placed a stop-loss order to sell at $20. What are you telling your broker? Given market prices , will your order be executed? 22) On January 1, y ou sold short one round lot (that is, 100 shares) of Lowe s stock at $21 per share. On March 1, a dividend of $3 per share was paid. On April 1, you covered the short sale by buying the stock at a price of $15 per share. You paid 50 cents per share in commissions for each transaction. What is the value of your account on April 1? Chapter 5 # 11-19 CFA # 4-6 11) Consider a risky portfolio. The end-of-year cash flow derived from the portfolio will be either $50,000 or $150,000, with equal probabilities of 0.5. The alternative riskless investment in T-bills pays 5%. a) if you require a risk premium of 10%, how much will you be willing to pay for the portfolio? b) suppose the portfolio can be purchased for the amount you found in (a). what will the expected rate of return on the portfolio be? c) Now suppose you require a risk premium of 15%. What is the price you will be willing to pay now? d) Comparing your answers to (a) and (c), what do you conclude about the relationship between the required risk premium on a portfolio and the price at which the portfolio will sell?

For Problems 12-16 assume that you managae a risky portfolio with an expected rate of return of 17% and a standard deviation of 27%. The T-bill rate is 7% 12) Your client chooses to invest 70% of a portfolio in your fund and 30% in a T-bill money market fund. What is the expected return and standard deviation of your client s portfolio? b) Suppose your risky portfolio includes the following investments in a the given proportions: Stock A Stock B Stock C 27% 33% 40%

What are the investments proportions of your client s overall portfolio, including the positions in T-bills? c)What is the reward-to-volatility ratio (S) of your risky portfolio and your client s overall portfolio? d) Draw the CAL of your portfolio on an expected return/standard deviation diagram. What is the slope of the CAL? Show the position of your client on your fund s CAL. 13) Suppose the same client in the previous problem decides to invest in your risky portfolio a proportion (y) of his total investment budget so that his overall portfolio will have an exptected rate of return of 15% a) what is the proportion y? b) what are your client s investment proportions in your three stocks and the T-bill fund? c) what is the standard deviation of the rate of return on your client s portfolio? 14)Suppose the same client as in the previous problem prefers to invest in your portfolio a proportion (y) that maximizes the expected return on the overall portfolio subject to the constraint that the overall portfolio s standard deviation will not exceed 20%. a) what is the investment proportion, y? b) what is the expected rate of return on the overall portfolio? 15) You estimate that a passive portfolio invested to mimic the S&P 500 stock index yields an expected rate of return of 13% with a standard deviation of 25%. Draw the CML and your fund s CAL on an expected return/standard deviation diagram. a) what is the slope of the CML? b) Characterize in one short paragraph the advantage of your fund over the passive fund.

16) Your client (see previous problem) wonders whether to switch the 70% that is invested in your fund to the passive portfolio. a) explain to your client the disadvantage of the switch. b) show your client the maximum fee you could charge (as a percent of the investment in your fund deducted at the end of the year) that would still leave him at least as well off investing in your fund as in the passive one. (Hint: the fee will lower the slope of your client s CAL by reducing the expected return net of the fee.) 17) What do you think would happen to the expected return on stocks if investors perceived an increase in the volatility of stocks? 18) You manage an equity fund with an expected risk premium of 10% and an expected standard deviation of 14%. The rate on Treasury bills is 6%. Your client chooses to invest $60,000 of her portfolio in your equity fund and $40,000 in a T-bill money market fund. What is the expected return and standard deviation of return on your client s portfolio? 19) What is the reward-to-volatility ratio for the equity fund in the previous problem? Use the Following data in answering CFA Questions 4-6 Utility Formula Data Expected Return, E(r) Standard Deviation .12 .30 .15 .50 .21 .16 .24 .21 Required risk premium = 1/2A*(variance), where A =4

Investment 1 2 3 4

4) based on the formula for required risk premium above, which investment would you select if you were risk averse with A=4? 5) Based on the formula above, which investment would you select if you were risk neutral? 6) The variable (A) in the utility formula represents the: a) Investor s return requirement. b)Investor s aversion to risk. c) Certainty equivalent rate of the portfolio. d) Preference for one unit of return per four units of risk.