EXAM IFM PRACTICE LATEST QUESTIONS AND VERIFIED
ANSWERS
Describe the credibility princible - CORRECT ANSWER✅✅✅Claims in one's self interest are credible
only if they are supported by actions that would be too costly to take if the claims were untrue
How do you solve for the price of a call in a 2-period binomial tree for a European option? - CORRECT
ANSWER✅✅✅C = e^(-rh) ⋅ [Cu⋅p + Cd⋅(1-p)]
use this formula for each branch, working from right to left
You are given otherwise identical Calls and Puts on a stock, how should you approach the problem? -
CORRECT ANSWER✅✅✅Using the put-call parity equation
C - P = S⋅e^(-δT) - K⋅e^(-rT)
You are given an efficient frontier on a graph. What portfolio should a rational investor hold? - CORRECT
ANSWER✅✅✅Any portfolio tangent to the efficient frontier. The tangent portfolio also has the
highest Sharpe-ratio
On what levels are US Treasury securities taxed? - CORRECT ANSWER✅✅✅Federally only, not state-
level
An investor can choose between two options: Option A - exchange 1 share of X for 2 shares of Y; or
Option B - exchange 2 shares of X for 4 shares of Y. Which would have a higher value? - CORRECT
ANSWER✅✅✅Option B is twice as valuable
What is the prepaid forward price of a stock with continuous dividends? - CORRECT
ANSWER✅✅✅Fp(S) = S⋅e^(-δT)
T/F: investors actively try to follow and imitate each other's behavior and actions? - CORRECT
ANSWER✅✅✅True
,If an investor experiences the disposition effect, when will they sell the stock? - CORRECT
ANSWER✅✅✅The disposition effect says that an investor will sell winners and hang on to losers. So
they will sell as soon as they start to make money.
How to solve a decision tree - CORRECT ANSWER✅✅✅Work from right to left on the tree. At each
information node, calculate the expected value of cash flows; at each decision node, choose whichever
path produces the higher expected return
Which benefit is described by:
1. paid after x years, assuming the policyholder is alive
2. the policyholder may make annual withdrawals of p% - CORRECT ANSWER✅✅✅Guaranteed
minimum withdrawal benefit
If stock prices are lognormally distributed and you are given the mean and median, how do you solve for
the volatility? - CORRECT ANSWER✅✅✅median(S) = mean(S) ⋅ e^[−0.5⋅σ^(2)⋅t]
Calculate the profit from writing a covered call - CORRECT ANSWER✅✅✅CF0 = -stock + premium
CF1 = AV(CF0) + K
How do you solve for the price of a call in a 2-period binomial tree for an American option? - CORRECT
ANSWER✅✅✅Calculate the pull-back value and immediate-exercise at each branch. Choose
whichever one is better for the investor and continue from right to left
What is the preference order for financing an investment, according to the pecking order theory? -
CORRECT ANSWER✅✅✅1. Current equity
2. Debt
3. New equity
What is the formula for standard error? - CORRECT ANSWER✅✅✅standard error = SD(X)/sqrt(N)
T/F: the semi-variance is always less than or equal to the variance - CORRECT ANSWER✅✅✅True
, Formula for a confidence interval - CORRECT ANSWER✅✅✅Mean +/- (2 ⋅ Standard error)
If a firm wishes to remain private, could they finance through an IPO? - CORRECT ANSWER✅✅✅No
Does the investor pay the bid price or the ask price to buy a stock? - CORRECT ANSWER✅✅✅The
investor pays the ask price to buy the stock. They sell the stock back to the market for the bid price
What is the sum of a geometric sequence? - CORRECT ANSWER✅✅✅(First term - first omitted term)
/ (1 - common ratio)
If you are given the price of a knock-in option and the regular option price, how do you calculate the
price of a knock-out option? - CORRECT ANSWER✅✅✅Knock-in + knock-out = ordinary option
T/F: Buying more shares of the same company in a portfolio will reduce the volatility. Explain why/why
not. - CORRECT ANSWER✅✅✅False. Diversification only occurs when we combine stocks that are
not perfectly positively correlated.
You are given a table of lognormally-distributed stock prices and need to calculate the annual volatility.
How? - CORRECT ANSWER✅✅✅1. Calculate ln[S(i) / S(i-1)] for each consecutive pair and input in
data table
2. solve for standard deviation
3. Divide SD by sqrt(length of the period) to annualize
What is the price of a prepaid forward contract with discrete dividends? - CORRECT
ANSWER✅✅✅Fp = S - PV(Divs)
T/F: a multi-factor model considers taxes and transaction costs when estimating the expected return -
CORRECT ANSWER✅✅✅False, it does not consider taxes and transaction costs
T/F: A multi-factor model is also called the "Arbitrage Pricing Theory" - CORRECT ANSWER✅✅✅True
ANSWERS
Describe the credibility princible - CORRECT ANSWER✅✅✅Claims in one's self interest are credible
only if they are supported by actions that would be too costly to take if the claims were untrue
How do you solve for the price of a call in a 2-period binomial tree for a European option? - CORRECT
ANSWER✅✅✅C = e^(-rh) ⋅ [Cu⋅p + Cd⋅(1-p)]
use this formula for each branch, working from right to left
You are given otherwise identical Calls and Puts on a stock, how should you approach the problem? -
CORRECT ANSWER✅✅✅Using the put-call parity equation
C - P = S⋅e^(-δT) - K⋅e^(-rT)
You are given an efficient frontier on a graph. What portfolio should a rational investor hold? - CORRECT
ANSWER✅✅✅Any portfolio tangent to the efficient frontier. The tangent portfolio also has the
highest Sharpe-ratio
On what levels are US Treasury securities taxed? - CORRECT ANSWER✅✅✅Federally only, not state-
level
An investor can choose between two options: Option A - exchange 1 share of X for 2 shares of Y; or
Option B - exchange 2 shares of X for 4 shares of Y. Which would have a higher value? - CORRECT
ANSWER✅✅✅Option B is twice as valuable
What is the prepaid forward price of a stock with continuous dividends? - CORRECT
ANSWER✅✅✅Fp(S) = S⋅e^(-δT)
T/F: investors actively try to follow and imitate each other's behavior and actions? - CORRECT
ANSWER✅✅✅True
,If an investor experiences the disposition effect, when will they sell the stock? - CORRECT
ANSWER✅✅✅The disposition effect says that an investor will sell winners and hang on to losers. So
they will sell as soon as they start to make money.
How to solve a decision tree - CORRECT ANSWER✅✅✅Work from right to left on the tree. At each
information node, calculate the expected value of cash flows; at each decision node, choose whichever
path produces the higher expected return
Which benefit is described by:
1. paid after x years, assuming the policyholder is alive
2. the policyholder may make annual withdrawals of p% - CORRECT ANSWER✅✅✅Guaranteed
minimum withdrawal benefit
If stock prices are lognormally distributed and you are given the mean and median, how do you solve for
the volatility? - CORRECT ANSWER✅✅✅median(S) = mean(S) ⋅ e^[−0.5⋅σ^(2)⋅t]
Calculate the profit from writing a covered call - CORRECT ANSWER✅✅✅CF0 = -stock + premium
CF1 = AV(CF0) + K
How do you solve for the price of a call in a 2-period binomial tree for an American option? - CORRECT
ANSWER✅✅✅Calculate the pull-back value and immediate-exercise at each branch. Choose
whichever one is better for the investor and continue from right to left
What is the preference order for financing an investment, according to the pecking order theory? -
CORRECT ANSWER✅✅✅1. Current equity
2. Debt
3. New equity
What is the formula for standard error? - CORRECT ANSWER✅✅✅standard error = SD(X)/sqrt(N)
T/F: the semi-variance is always less than or equal to the variance - CORRECT ANSWER✅✅✅True
, Formula for a confidence interval - CORRECT ANSWER✅✅✅Mean +/- (2 ⋅ Standard error)
If a firm wishes to remain private, could they finance through an IPO? - CORRECT ANSWER✅✅✅No
Does the investor pay the bid price or the ask price to buy a stock? - CORRECT ANSWER✅✅✅The
investor pays the ask price to buy the stock. They sell the stock back to the market for the bid price
What is the sum of a geometric sequence? - CORRECT ANSWER✅✅✅(First term - first omitted term)
/ (1 - common ratio)
If you are given the price of a knock-in option and the regular option price, how do you calculate the
price of a knock-out option? - CORRECT ANSWER✅✅✅Knock-in + knock-out = ordinary option
T/F: Buying more shares of the same company in a portfolio will reduce the volatility. Explain why/why
not. - CORRECT ANSWER✅✅✅False. Diversification only occurs when we combine stocks that are
not perfectly positively correlated.
You are given a table of lognormally-distributed stock prices and need to calculate the annual volatility.
How? - CORRECT ANSWER✅✅✅1. Calculate ln[S(i) / S(i-1)] for each consecutive pair and input in
data table
2. solve for standard deviation
3. Divide SD by sqrt(length of the period) to annualize
What is the price of a prepaid forward contract with discrete dividends? - CORRECT
ANSWER✅✅✅Fp = S - PV(Divs)
T/F: a multi-factor model considers taxes and transaction costs when estimating the expected return -
CORRECT ANSWER✅✅✅False, it does not consider taxes and transaction costs
T/F: A multi-factor model is also called the "Arbitrage Pricing Theory" - CORRECT ANSWER✅✅✅True
