Homework 1
Part I: Multiple Choice Questions (8 points for each question; 40 points in total). Please select
the one and only one choice that BEST answers the question. If you think none of the answers is
correct, write down your assumptions and concerns below the answer box.
1. Which of the following are financial assets?
A. Bonds
B. Machines
C. Stocks
D. Bonds and stocks
E. Bonds, machines, and stocks
2. Money market securities
A. are short term.
B. are highly marketable.
C. are generally very low risk.
D. are highly marketable and are generally very low risk.
E. all of the above.
3. Which of the following indices is(are) market-value weighted?
I) The New York Stock Exchange Composite Index
II) The Standard and Poor's 500 Stock Index
III) The Dow Jones Industrial Average
A. I only
B. I and II only
C. I and III only
D. I, II, and III
E. II and III only
4. Which one of the following statements regarding open-end mutual funds is FALSE?
A. The funds redeem shares at net asset value.
B. The funds offer investors professional management.
C. The funds offer investors a guaranteed rate of return.
D. The funds change management fees.
E. The funds redeem shares at net asset value and offer investors professional management.
5. How many of the following statements are CORRECT?
I) A purchase of a new issue takes place in the primary market.
II) Trading of a stock that was previously issued takes place in the secondary market
III) When you use a market order, you are expecting an immediate execution.
IV) One of the market makers’ roles is to provide liquidity.
A. 0
B. 1
C. 2
D. 3
E. 4
Part II: Short Answer Questions (15 points for each question; 60 points in total).
1. Consider the three stocks in the following table. Pt represents price at time t, and Qt represents
shares outstanding at time t. Stock C splits two for one in the last period.
A
B
C
P0
90
50
100
Q0
100
200
200
P1
95
45
110
Q1
100
200
200
P2
95
45
55
Q2
100
200
400
a. Calculate the rate of return on a price-weighted index of the three stocks for the first
period (t = 0 to t = 1). Assume the old divisor is 3.
b. What must happen to the divisor for the price-weighted index in year 2?
c. Calculate the rate of return for the second period (t = 1 to t = 2).
d. Calculate the first-period rates of return on the market-value-weighted index of the three
stocks.
2. Consider the following limit-order book for a share of stock. The last trade in the stock
occurred for $50.
Limit Buy Orders
Limit Sell Orders
Price
Shares
Price
Shares
$49.75
500
$50.25
100
49.50
800
51.50
100
49.25
500
54.75
300
49.00
200
58.25
100
48.50
600
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?
3. Investor A opens a brokerage account and purchases 200 shares of My Internet Dreams at
$40 per share. She borrows $3,000 from her broker to help pay for the purchase.
a. What is the percentage margin in A’s account when she first purchases the stock?
b. If the share price falls to $35 per share by the end of the year, what is the remaining
percentage margin in her account? If the maintenance requirement is 30%, will she
receive a margin call?
c. What is the rate of return on her account if the price increases to 45?
4. You are bearish on MyTelecom company and have decided 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?
c. If the price of the stock goes up to $60, what is your rate of return on the investment?
d. If the price of the stock goes down to $40, what is your rate of return on the investment?