1) You are in charge of a project that has a degree of operating leverage of 1.0
ID: 2716412 • Letter: 1
Question
1) You are in charge of a project that has a degree of operating leverage of 1.09. What will happen to the operating cash flows if the number of units you sell increase by 6.2 percent?
A 6.20 percent decrease
B 6.76 percent increase
C 5.69 percent increase
D 5.69 percent decrease
2) A stock had returns of 14 percent, 13 percent, -10 percent, and 7 percent for the past four years. Which one of the following best describes the probability that this stock will lose no more than 10 percent in any one year?
A Greater than .5 but less than 1.0 percent.
B Greater than 84 percent but less than 97.5 percent.
C Greater than 2.5 percent but less than 16 percent. .
D Greater than 1 percent but less than 2.5 percent.
3) A stock had returns of 16 percent, 4 percent, 8 percent, 14 percent, -9 percent, and -5 percent over the past six years. What is the geometric average return for this time period?
A 5.60 percent
B 4.67 percent
C 4.26 percent
D 5.13 percent
4 Assume all stock prices fairly reflect all of the available information on those stocks. Which one of the following terms best defines the stock market under these conditions?
A Blume's market
B Zero volatility market
C Efficient capital market
D Evenly distributed market
1) You are in charge of a project that has a degree of operating leverage of 1.09. What will happen to the operating cash flows if the number of units you sell increase by 6.2 percent?
A 6.20 percent decrease
B 6.76 percent increase
C 5.69 percent increase
D 5.69 percent decrease
2) A stock had returns of 14 percent, 13 percent, -10 percent, and 7 percent for the past four years. Which one of the following best describes the probability that this stock will lose no more than 10 percent in any one year?
A Greater than .5 but less than 1.0 percent.
B Greater than 84 percent but less than 97.5 percent.
C Greater than 2.5 percent but less than 16 percent. .
D Greater than 1 percent but less than 2.5 percent.
Explanation / Answer
Answer (1)
B. 6.76% percent increase
Increase in number of units sold = 6.20%
Degree of Operating Leverage = 1.09
Degree of operating leverage = change in operating income / change in sales
Change in operating income = change in sales * degree of operating leverage
= 6.2% * 1.09 = 6.758% or 6.76% (rounded off)
Answer (2)
C. Greater than 2.5% but less than 16%
Assuming that all the returns have equal probability
Mean return = 0.25 * 14% + 0.25*13% + 0.25* -10% + 0.25*7%
= 3.5% + 3.25% -2.5% + 1.75%
= 6%
Variance = 0.25 * (0.14-0.06)^2 + 0.25 * (0.13-0.06)^2 + 0.25*(-0.10-0.06)^+0.25*(0.07-0.06)^2
= 0.25*0.0064 + 0.25 * 0.0049 + 0.25 * 0.0256 + 0.25 * 0.0001
= 0.0016 + 0.001225 + 0.0064 + 0.000025
= 0.00925
Standard Deviation = Square root (0.00925) = 0.0961769 or 9.62%
Assuming that the returns of the security form a normal distribution, then
Mean return = 6% and returns not more than -10%
This is -10-6 = -16% from away from the mean
That is -16/9.6 = 1.667 standard deviation away from mean
The probability is 68% for 1 standard deviation and 95% for two standard deviations and 99.7% for three standard deviations. Hence in this case the value lies between 2 standard deviations and 1 standard deviation.
Hence the probability = (95-68) * 1.6667 = 45%
The probability of getting returns less than -10% is less than 45% or 9.6 * 0.45 = 4.32%
The probability lies between greater than 2.5% but less than 16%
Answer (3)
C. 4.26 percent
Stock returns = 16%, 4%,8%, 14%, -9%, -5%
Geometric return = [(1+0.16)*(1+0.04)*(1+0.08)*(1+0.14)*(1-0.09)*(1-0.05)]^(1/6) -1
= [1.16*1.04*1.08*1.14*0.91*0.95]^(1/6) - 1
= [1.28405886336]^(1/6) - 1
= 1.04255 – 1 = 0.04255 or 4.26%
Answer (4)
C. Efficient Capital Market
When the stock prices fairly reflect all the available information on those stocks. Such market is known as Efficient Capital Market
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