Chartered Financial Analyst (CFA) Level II
Practice Exam Questions and Correct Answers
(Verified Answers) Plus Rationales 2026 Q&A |
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1. An investor is analyzing a company's financial statements and
notes that goodwill has increased significantly after an acquisition.
Which of the following statements is most likely true?
A) The company has generated substantial internal growth.
B) The acquisition was likely at a premium, resulting in increased
intangible assets.
C) Depreciation expense will decrease.
D) Cash flows from operations will increase.
Answer: B
Rationale: Goodwill represents the excess paid over the fair value of net
assets acquired. A significant increase indicates the company paid a
premium for the acquisition.
2. A company reports a current ratio of 2.0 and a quick ratio of 1.0.
Which of the following conclusions can be drawn?
A) The company has no inventory.
B) Inventory equals current liabilities.
C) The company has significant inventory relative to current
assets.
D) The company has insufficient liquidity.
Answer: C
Rationale: The quick ratio excludes inventory. A current ratio higher
,than the quick ratio indicates inventory is a substantial portion of
current assets.
3. When performing a discounted cash flow (DCF) valuation, which
of the following is most sensitive to changes in the discount rate?
A) Terminal value
B) Free cash flow in the first year
C) Capital expenditures
D) Net working capital
Answer: A
Rationale: Terminal value, often representing a large portion of total
DCF value, is highly sensitive to discount rate assumptions.
4. Which of the following best describes the yield-to-maturity (YTM)
of a bond?
A) The bond’s coupon rate
B) The total return an investor will earn if held to maturity,
assuming all coupons are reinvested at the same rate
C) The market price divided by face value
D) The current yield
Answer: B
Rationale: YTM reflects the internal rate of return considering coupon
payments, face value, and purchase price if held to maturity.
5. A firm has a beta of 1.2, the risk-free rate is 3%, and the expected
market return is 10%. Using the CAPM, what is the expected
return?
A) 11.4%
B) 12.4%
C) 13.4%
D) 14.4%
,Answer: C
Rationale: Expected return = Rf + β(Rm - Rf) = 3% + 1.2(10%-3%) = 3% +
8.4% = 11.4% Wait—let’s calculate carefully: 1.2*(10-3)=1.2*7=8.4, plus
3%=11.4%. Corrected answer: A.
Rationale: Using CAPM formula carefully: 3% + (1.2 × 7%) = 11.4%.
6. Which of the following is a characteristic of a contingent claim?
A) It obligates the issuer to pay a fixed cash flow.
B) Its payoff depends on the outcome of an uncertain event.
C) It is always classified as a liability.
D) It cannot be traded in secondary markets.
Answer: B
Rationale: Contingent claims, like options, provide payoffs that depend
on uncertain future events.
7. A company uses FIFO for inventory accounting. During periods of
rising prices, which of the following statements is correct?
A) Cost of goods sold is higher than under LIFO.
B) Ending inventory is lower than under LIFO.
C) Net income is higher than under LIFO.
D) Cash taxes are higher than under LIFO.
Answer: C
Rationale: FIFO uses older, lower-cost inventory first, resulting in lower
COGS and higher net income during rising prices.
8. In regression analysis used for multifactor models, which of the
following indicates multicollinearity?
A) High R-squared
B) Low t-statistics for individual coefficients despite a significant F-
statistic
, C) Residuals are normally distributed
D) The model has homoscedastic errors
Answer: B
Rationale: Multicollinearity inflates standard errors of coefficients,
making t-statistics low even if the overall model is significant.
9. Which of the following is the primary purpose of duration in bond
analysis?
A) To measure credit risk
B) To measure price sensitivity to interest rate changes
C) To forecast future cash flows
D) To determine tax impact
Answer: B
Rationale: Duration quantifies how much a bond’s price will change for
a given change in interest rates.
10. Which of the following statements about forward contracts
is correct?
A) They are standardized and traded on exchanges.
B) They require an initial margin deposit.
C) They obligate the buyer to purchase the underlying asset at a
future date at a pre-agreed price.
D) Their value cannot become negative.
Answer: C
Rationale: Forward contracts are customized agreements obligating the
buyer to purchase at a set future price; unlike futures, they are not
exchange-traded and typically do not require margin.
11. A company with high operating leverage is most sensitive to:
A) Changes in fixed costs
B) Changes in sales volume
Practice Exam Questions and Correct Answers
(Verified Answers) Plus Rationales 2026 Q&A |
Instant Download Pdf
1. An investor is analyzing a company's financial statements and
notes that goodwill has increased significantly after an acquisition.
Which of the following statements is most likely true?
A) The company has generated substantial internal growth.
B) The acquisition was likely at a premium, resulting in increased
intangible assets.
C) Depreciation expense will decrease.
D) Cash flows from operations will increase.
Answer: B
Rationale: Goodwill represents the excess paid over the fair value of net
assets acquired. A significant increase indicates the company paid a
premium for the acquisition.
2. A company reports a current ratio of 2.0 and a quick ratio of 1.0.
Which of the following conclusions can be drawn?
A) The company has no inventory.
B) Inventory equals current liabilities.
C) The company has significant inventory relative to current
assets.
D) The company has insufficient liquidity.
Answer: C
Rationale: The quick ratio excludes inventory. A current ratio higher
,than the quick ratio indicates inventory is a substantial portion of
current assets.
3. When performing a discounted cash flow (DCF) valuation, which
of the following is most sensitive to changes in the discount rate?
A) Terminal value
B) Free cash flow in the first year
C) Capital expenditures
D) Net working capital
Answer: A
Rationale: Terminal value, often representing a large portion of total
DCF value, is highly sensitive to discount rate assumptions.
4. Which of the following best describes the yield-to-maturity (YTM)
of a bond?
A) The bond’s coupon rate
B) The total return an investor will earn if held to maturity,
assuming all coupons are reinvested at the same rate
C) The market price divided by face value
D) The current yield
Answer: B
Rationale: YTM reflects the internal rate of return considering coupon
payments, face value, and purchase price if held to maturity.
5. A firm has a beta of 1.2, the risk-free rate is 3%, and the expected
market return is 10%. Using the CAPM, what is the expected
return?
A) 11.4%
B) 12.4%
C) 13.4%
D) 14.4%
,Answer: C
Rationale: Expected return = Rf + β(Rm - Rf) = 3% + 1.2(10%-3%) = 3% +
8.4% = 11.4% Wait—let’s calculate carefully: 1.2*(10-3)=1.2*7=8.4, plus
3%=11.4%. Corrected answer: A.
Rationale: Using CAPM formula carefully: 3% + (1.2 × 7%) = 11.4%.
6. Which of the following is a characteristic of a contingent claim?
A) It obligates the issuer to pay a fixed cash flow.
B) Its payoff depends on the outcome of an uncertain event.
C) It is always classified as a liability.
D) It cannot be traded in secondary markets.
Answer: B
Rationale: Contingent claims, like options, provide payoffs that depend
on uncertain future events.
7. A company uses FIFO for inventory accounting. During periods of
rising prices, which of the following statements is correct?
A) Cost of goods sold is higher than under LIFO.
B) Ending inventory is lower than under LIFO.
C) Net income is higher than under LIFO.
D) Cash taxes are higher than under LIFO.
Answer: C
Rationale: FIFO uses older, lower-cost inventory first, resulting in lower
COGS and higher net income during rising prices.
8. In regression analysis used for multifactor models, which of the
following indicates multicollinearity?
A) High R-squared
B) Low t-statistics for individual coefficients despite a significant F-
statistic
, C) Residuals are normally distributed
D) The model has homoscedastic errors
Answer: B
Rationale: Multicollinearity inflates standard errors of coefficients,
making t-statistics low even if the overall model is significant.
9. Which of the following is the primary purpose of duration in bond
analysis?
A) To measure credit risk
B) To measure price sensitivity to interest rate changes
C) To forecast future cash flows
D) To determine tax impact
Answer: B
Rationale: Duration quantifies how much a bond’s price will change for
a given change in interest rates.
10. Which of the following statements about forward contracts
is correct?
A) They are standardized and traded on exchanges.
B) They require an initial margin deposit.
C) They obligate the buyer to purchase the underlying asset at a
future date at a pre-agreed price.
D) Their value cannot become negative.
Answer: C
Rationale: Forward contracts are customized agreements obligating the
buyer to purchase at a set future price; unlike futures, they are not
exchange-traded and typically do not require margin.
11. A company with high operating leverage is most sensitive to:
A) Changes in fixed costs
B) Changes in sales volume
