Series 66 Chapter 9 Investment
Recommendations - Risks and Returns
questions with answers.
An investment's performance is best measured by:
[A]The investment's yield
[B]The investment's total Return***
[C]The investment's benchmark return
[D]The investment's capital appreciation ANS -EXPLANATION
The best measure of an investment's performance is the sum of income and capital appreciation, known
as total return.
What is the biggest risk to an investor with a portfolio that is over 90% invested in publicly traded
common stocks with the remainder in the portfolio as cash?
[A]Market Risk****
[B]Business Risk
[C]Regulatory Risk
[D]Interest Rate Risk ANS -EXPLANATION
Market risk is the potential for an investor to experience losses due to daily fluctuations in the price of
securities. It is also known as systemic risk.
When using DCF to evaluate the impact of increasing interest rates in the market, what affect would it
have on new bonds in the market?
[A]The DCF on new bond will increase.****
[B]The DCF on new bond will decrease.
[C]The DCF on new bond will stay the same.
[D]The DCF is not used to evaluate the interest rates on new bonds. ANS -EXPLANATION
If interest rates are increasing, then it is expected that the returns on new bonds will increase due to the
increase in interest rates.
,Business or Credit Risk is best defined as which of the following?
[A]The risk that is unique to an individual companies current and future returns.****
[B]The risk that an investments returns will be affected by political changes.
[C]The risk that an investment will not be able to be sold quickly.[D]The risk that the market as a whole
will decline. ANS -EXPLANATION
Business or Credit Risk is the risk associated with the unique situation of an individual company's current
and future returns as well as solvency of the company.
Fixed annuity payouts are primarily subject to which of the following risks:
[A]Inflation Risk***
[B]Market Risk
[C]Regulatory Risk
[D]Capital Risk ANS -EXPLANATION
The inflation risk is the purchasing power risk. Since fixed annuity payments are of a fixed amount,
inflation will diminish the purchasing power of the payments. (Ex - $1000 today will be worth less than
$1000 in 10 years)
Wayne is looking at buying a block of stock for his portfolio. He is evaluating one stock in particular,
which has a beta of 1.15. Wayne is using the S&P 500 as his benchmark, and it has a beta of 1.0. If the
S&P 500 returned 5% in the previous year and the stock that Wayne is evaluating returned 7.5%, what is
the alpha of the stock that Wayne is evaluating?
[A]The alpha of the stock is 8.625%.
[B]The alpha of the stock is 6.35%.
[C]The alpha of the stock is 2.5%.
[D]The alpha of the stock is 1.75%. ANS -EXPLANATION
The formula for alpha is: Alpha = Realized Return - (Market Return x Beta)Alpha = 0.075 - (0.05 x
1.15)Alpha = 0.075 - 0.0575Alpha = 0.0175 or 1.75%
An efficient trading market is one with:
[A]uniform trading procedures[B]centralized trading floor[C]small bid / ask spreads[D]publicly
disseminated traded reporting ANS -EXPLANATION
, An indication that the market for a security is operating efficiently is when the difference between the
bid and the ask price is narrow or small.
When you take the nominal return less the rate of inflation you have just determined the:
[A]Inflation Adjusted Return***
[B]Expected Return
[C]Realized Return
[D]Standard Deviation ANS -EXPLANATION
The Inflation Adjust Return also called the Real Return or Real Interest Rate is determined by taking the
total or nominal return less the rate of inflation.
Which of the following statements reflects one of the four main considerations within Modern Portfolio
Theory?
[A]Historical performance tends to repeat itself over time.
[B]Asset allocation helps diversify a portfolio.***
[C]Technical analysis is critical to security selection.
[D]Expected returns cannot be calculated. ANS -EXPLANATION
Modern Portfolio Theory is an investment theory that attempts to optimize expected returns for a
portfolio given a level of risk. It contains four main considerations: security valuation, asset allocation,
portfolio optimization and performance measurement. Asset allocation is critical as an investor can
achieve better returns for a given level of risk by diversifying across asset classes. All the other choices
are false.
An investor must decide if the current market price of a 20-year bond that pays semi-annual interest is
fairly valued. To assess the value of the bond using discounted cash flow methodology, the investor
must include which of the following in DCF calculations?
[A]Coupon payments***
[B]Bond ratings
[C]The relevant bond market index value
[D]Common stock dividends ANS -EXPLANATION
DCF calculations on bonds include the discount rate, coupon payments, and the principal payment at
maturity. All of the other choices are not included when calculating values of bonds using DCF. Note:
common stock dividends are a consideration for equity valuations, but not for bonds.
Recommendations - Risks and Returns
questions with answers.
An investment's performance is best measured by:
[A]The investment's yield
[B]The investment's total Return***
[C]The investment's benchmark return
[D]The investment's capital appreciation ANS -EXPLANATION
The best measure of an investment's performance is the sum of income and capital appreciation, known
as total return.
What is the biggest risk to an investor with a portfolio that is over 90% invested in publicly traded
common stocks with the remainder in the portfolio as cash?
[A]Market Risk****
[B]Business Risk
[C]Regulatory Risk
[D]Interest Rate Risk ANS -EXPLANATION
Market risk is the potential for an investor to experience losses due to daily fluctuations in the price of
securities. It is also known as systemic risk.
When using DCF to evaluate the impact of increasing interest rates in the market, what affect would it
have on new bonds in the market?
[A]The DCF on new bond will increase.****
[B]The DCF on new bond will decrease.
[C]The DCF on new bond will stay the same.
[D]The DCF is not used to evaluate the interest rates on new bonds. ANS -EXPLANATION
If interest rates are increasing, then it is expected that the returns on new bonds will increase due to the
increase in interest rates.
,Business or Credit Risk is best defined as which of the following?
[A]The risk that is unique to an individual companies current and future returns.****
[B]The risk that an investments returns will be affected by political changes.
[C]The risk that an investment will not be able to be sold quickly.[D]The risk that the market as a whole
will decline. ANS -EXPLANATION
Business or Credit Risk is the risk associated with the unique situation of an individual company's current
and future returns as well as solvency of the company.
Fixed annuity payouts are primarily subject to which of the following risks:
[A]Inflation Risk***
[B]Market Risk
[C]Regulatory Risk
[D]Capital Risk ANS -EXPLANATION
The inflation risk is the purchasing power risk. Since fixed annuity payments are of a fixed amount,
inflation will diminish the purchasing power of the payments. (Ex - $1000 today will be worth less than
$1000 in 10 years)
Wayne is looking at buying a block of stock for his portfolio. He is evaluating one stock in particular,
which has a beta of 1.15. Wayne is using the S&P 500 as his benchmark, and it has a beta of 1.0. If the
S&P 500 returned 5% in the previous year and the stock that Wayne is evaluating returned 7.5%, what is
the alpha of the stock that Wayne is evaluating?
[A]The alpha of the stock is 8.625%.
[B]The alpha of the stock is 6.35%.
[C]The alpha of the stock is 2.5%.
[D]The alpha of the stock is 1.75%. ANS -EXPLANATION
The formula for alpha is: Alpha = Realized Return - (Market Return x Beta)Alpha = 0.075 - (0.05 x
1.15)Alpha = 0.075 - 0.0575Alpha = 0.0175 or 1.75%
An efficient trading market is one with:
[A]uniform trading procedures[B]centralized trading floor[C]small bid / ask spreads[D]publicly
disseminated traded reporting ANS -EXPLANATION
, An indication that the market for a security is operating efficiently is when the difference between the
bid and the ask price is narrow or small.
When you take the nominal return less the rate of inflation you have just determined the:
[A]Inflation Adjusted Return***
[B]Expected Return
[C]Realized Return
[D]Standard Deviation ANS -EXPLANATION
The Inflation Adjust Return also called the Real Return or Real Interest Rate is determined by taking the
total or nominal return less the rate of inflation.
Which of the following statements reflects one of the four main considerations within Modern Portfolio
Theory?
[A]Historical performance tends to repeat itself over time.
[B]Asset allocation helps diversify a portfolio.***
[C]Technical analysis is critical to security selection.
[D]Expected returns cannot be calculated. ANS -EXPLANATION
Modern Portfolio Theory is an investment theory that attempts to optimize expected returns for a
portfolio given a level of risk. It contains four main considerations: security valuation, asset allocation,
portfolio optimization and performance measurement. Asset allocation is critical as an investor can
achieve better returns for a given level of risk by diversifying across asset classes. All the other choices
are false.
An investor must decide if the current market price of a 20-year bond that pays semi-annual interest is
fairly valued. To assess the value of the bond using discounted cash flow methodology, the investor
must include which of the following in DCF calculations?
[A]Coupon payments***
[B]Bond ratings
[C]The relevant bond market index value
[D]Common stock dividends ANS -EXPLANATION
DCF calculations on bonds include the discount rate, coupon payments, and the principal payment at
maturity. All of the other choices are not included when calculating values of bonds using DCF. Note:
common stock dividends are a consideration for equity valuations, but not for bonds.
