Question

1.Which of the following combinations can explain the logical inconsistency in the CAPM?

A. Passive portfolio strategy and the efficiency of the market portfolio

B. Active portfolio strategy and the minimum variance of the portfolio

C. Passive portfolio strategy and the capital allocation line

D. Active portfolio strategy and the investment opportunity set

2.Firms with higher expected growth rates tend to have P/E ratio that are…….the P/E ratio of firms with lower expected growth rates

A. Higher than

B. Equal to

C. Lower than

3.Currently the stock price of GTI is $59. The company currently has the EPS of $2.2 and the cost of equity of 11%. What is the present value of its growth opportunities (PVGO)?

A. PVGO< $25

B. $25< PVGO <$30

C. $30< PVGO <$35

D. $35< PVGO <$40

E. $40 <PVGO

4.A start-up firm has the EPS of $0.05. Analysis are trying to value the stock. If there is a firm that has very similar cash flows in the future and has a P/E ratio of 75. Then, what is the stock price of the start-up firm using the P/E multiple as a valuation method?

A. P0<$2.5

B. $2.5 < P0 <$3.0

C. $3.0 < P0 <$3.5

D. $3.5 < P0 <$4.0

E. $4.0 <P0

Answer 1

1.A. Passive portfolio strategy and the efficiency of the market portfolio

(if a passive strategy is costless and efficient nobody will follow an active strategy but if no one does any security analysis, what brings about the efficiency of the market portfolio?)

2.A Higher than

(Since the price of share= Cash flows / (K-g), higher the growth rate, higher will be the price and hence higher will be the P/E Ratio.)

3. D. $35< PVGO <$40

PVGO=P0- E1/r

=59- (2.2/11%)

=39

4. D. $3.5 < P0 <$4.0

Price= P/E * EPS

=75*0.05

=3.75