Question

1 if the return of two stocks has a correlation of -1, what does this imply about the relative movements in the stock prices?

a. if the price of one stock goes up, the other stock price always goes up as well

b. if the price of one stock goes up, the other stock price always go dow

c for each dollar increase in the price of one stock, the other stock also decreases by a dollar

d the percentage change in the stocks prices are exactly opposite of each other. for every 1% positive change in the one stock, the other stock as a 1% negative change

2 which of the following statement is false

a the yield to maturity of a bond is the discount rate that sets the present value of the promised bond payments equal to the current market price of the bond

b. YTM is the annual rate of return for bond investors, assuming they will hold the bond till maturity and receive all of the promisde payments

c. zero coupon bonds are always traded at a discount

d. to reduce interest rate risk, we should invest in long term bonds with low coupon rates

3. why are the interest rates of the US treasury securities less than the interest rates of equivalent corp bonds?

a. there is significant risk that the us gov will default

b. us treasury securities are considered risk free

c us treasury securities yield inflation adjusted interest rates\

d the us gov has a higher credit spread

Answer 1

1. Option d is correct.

The correlation of -1 indicates that the stocks are perfectly uncorrelated. It means they are inversely related and move in exactly opposite direction. The percentage change in one stock will result in exact same percentage in other in opposite direction.

2. Option d is false.

Long term bond has higher duration and hence result in higher price volatility than short term bonds. Therefore for interest rate risk reduction, the investment in Long term bond is not preferable.

3. Option b is correct.

The US securities are considered risk free wherein the Corporate bonds have risk of default. Hence the return on US securities will be lower than return on equivalent Corporate bonds due to its risk free nature.