CFA Institute CFA-LEVEL-1 Online Practice Questions and Exam Preparation

CFA Institute CFA-LEVEL-1 Online Questions & Answers

• Question 731:

  For an American investor, Japanese securities tend to have

  A. higher financial, liquidity, and exchange rate risk than American securities.
  B. lower financial and liquidity risk and higher exchanger rate risk than American securities.
  C. higher financial and exchange rate risk and lower liquidity risk than American securities.
  D. lower financial risk and higher liquidity and exchange rate risk than American securities.
  E. lower financial and exchange rate risk and higher liquidity risk than American securities.
  A. higher financial, liquidity, and exchange rate risk than American securities.

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  Explanation

  Japanese firms use considerably more financial leverage than American firms, and therefore tend to have higher financial risk. American capital markets are acknowledged to be the most liquid in the world, followed closely by those in Japan and London. Japanese securities therefore tend have higher liquidity risk than American securities. For an American investor, American securities have no exchange rate risk because they are denominated in dollars, while Japanese securities are denominated in a yen.

• Question 732:

  Lynn Smith, CFA, and a marketing associate have a disagreement over whether the stock market is truly efficient. The marketing associate believes that the stock market is totally efficient based on academic research that shows actively managed mutual funds do no better than a buy-and-hold strategy. Thus, he invests solely in index funds. Smith counters that academic research indicates that low P/E ratio stocks provide superior risk-adjusted returns. Based on this discussion, indicate which of the following statements regarding the efficient markets hypothesis (EMH) is correct.

  A. The strong form of the EMH is supported by academic research on low P/E stocks.
  B. The semistrong form of the EMH is not supported by academic research on low P/E stocks.
  C. The strong form of the EMH is not supported by academic research on mutual funds.
  B. The semistrong form of the EMH is not supported by academic research on low P/E stocks.

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  Explanation

• Question 733:

  In practice, preferred stocks have

  A. higher rates of return than junk bonds.
  B. lower rates of return than corporate bonds.
  C. higher rates of return than common stock.
  D. higher rates of return than moderately rated bonds.
  B. lower rates of return than corporate bonds.

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  Explanation

  Although one would think that preferred stocks would have higher rates of return than many bonds because their dividend payments are riskier than bond interest and principal payments, it turns out that preferred stocks have a lower rate of return than corporate bonds because of the tax advantages preferred stocks present corporations (thereby increasing their demand and decreasing their yield).

• Question 734:

  Myron Gordon and John Lintner believe that the required return on equity increases as the dividend payout ratio is decreased. Their argument is based on the assumption that

  A. investors require that the dividend yield and capital gains yield equal a constant.
  B. investors are indifferent between dividends and capital gains.
  C. investors value a dollar of expected capital gains more highly than a dollar of expected dividends because of the lower tax rate on capital gains.
  D. investors view dividends as being less risky than potential future capital gains.
  E. capital gains are taxed at a higher rate than dividends.
  D. investors view dividends as being less risky than potential future capital gains.

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  Explanation

  The main conclusion of MM's irrelevance theory is that dividend policy does not affect the required rate of return on equity. Gordon-Lintner disagreed stating that k(s) decreases as the dividend payout is increased because investors are less certain of receiving the capital gains which should result from retaining earnings than they are of receiving dividends. They said that investors value expected dividends more highly than expected capital gains because the dividend yield is less risky than the growth component in the total expected return equation, k(s) = D1/Po + g.

• Question 735:

  If the resources of an economy were fully employed and the marginal propensity to consume were 0.75, a $10 billion increase in investment would cause A. real income to rise $40 billion.

  B. real income to rise $80 billion.

  C. real income to rise $20 billion.

  D. inflation to increase.

  Correct Answer. D
  D

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  Explanation

  When the economy is operating at full employment capacity, increases in aggregate demand cannot be accommodated by increases in output. Instead, increases in aggregate demand are met simply by price increases due to the heightened competition for output.

• Question 736:

  Erwin DeLavall, the Plant Manager of Patch Grove Cabinets, is trying to decide whether or not to replace the old manual lathe machine with a new computerized lathe. He thinks the new machine will add value, but is not sure how to quantify

  his opinion. He asks his colleague, Terri Wharten, for advice. Wharten`s son just happens to be a Level 2 CFA candidate. DeLavall and Wharten provide the following information to Wharten's son:

  Company Assumptions:

  New Machine Assumptions:

  Which of the following choices is most correct? Patch Grove Cabinets should:

  A. not replace the old lathe with the new lathe because the new one will decrease the firm's value by $5,370.
  B. replace the old lathe with the new lathe because the new one will add $10,316 to the firm's value.
  C. not replace the old lathe with the new lathe because the new one will decrease the firm's value by $3,132.
  D. replace the old lathe with the new lathe because the new one will add $3,760 to the firm's value.
  D. replace the old lathe with the new lathe because the new one will add $3,760 to the firm's value.

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  Explanation

  The valuation method that shows the project's impact on the value of the firm is net present value (NPV). To calculate NPV, we need to determine the initial investment outlay, the operating cash flows, and the terminal year cash flows. Then,

  we discount the cash flows at the WACC. The calculations are as follows:

  Step 1: Initial Investment Outlay:

  = cost of new machine + proceeds/loss from old machine + change in net working capital (NWC)

  = -$90,000 + $30,000 - $6,800 + $5,000 =-$61,800(cash outflow)

  Details of calculation:

  o Sales price = $30,000inflow

  o Tax/tax credit: $6,800outflow

  o NWC =current assets -current liabilities = 20,000 ?25,000 = -5,000 (a decrease in working capital is a source of funds)

  Step 2: Operating Cash Flows (years 1-4):Given as$16,800inflow

  Step 3: Terminal Value:

  =year 5 cash flow + return/use of NWC + proceeds/loss from disposal of new machine + tax/tax credit

  =$16,800 - $5,000 + $15,000 + $1,920 =$28,720inflow

  Details of calculation:

  o Sales price = $15,000inflow

  o Tax/tax credit: $1,920inflow

  Step 4:Calculate NPV:

  NPV = -$61,800 + ($16,800 / 1.131) + ($16,800 / 1.132) +($16,800 / 1.133) +($16,800 / 1.134) +($28,720 / 1.135) =$3,759.

  Since the NPV is positive, Patch Grove should replace the old lathe with the new one, because the new lathe will increase the firm's value by the amount of the NPV, or $3,759.

  You may also solve this problem quickly by using the cash flow (CF) key on your calculator.

  

  

• Question 737:

  Which is not a true statement concerning the empirical evidence of mutual fund performance?

  A. less than 32 percent of the funds outperform the DJIA
  B. risk measures increase as fund objectives become more aggressive
  C. none of these answers are true
  D. more aggressive funds outperformed more conservative funds
  E. good performance is associated with low expense ratios
  F. successful market forecasting was not accomplished overall by fund managers
  G. all of these answers are true
  G. all of these answers are true

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  Explanation

  All of these are true as a result of research.

• Question 738:

  Assume the following information about a stock market series:

  Observed beginning series value: 515. 60 Anticipated ending series value: 609.15 Expected dividends during the period: $24 Required rate of return: 21% per year

  What is the expected annual rate of return for this index? (Assume a one-year holding period.)

  A. None of these answers is correct.
  B. 13. 49%
  C. 19.30%
  D. 11.42%
  E. 22. 80%
  E. 22. 80%

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  Explanation

  To calculate the expected rate of return for a stock market series, the following information must be known:

  The beginning value for the series

  The anticipated ending value for the series, and

  The amount of any dividends and/or distributions during the period

  Once this information has been determined, the expected return on a stock market index can be found by employing the following equation:

  E(R) = [(EV - BV + Div) / BV]

  Where: E(R) = the expected return on the stock market series, EV = the anticipated ending value for the series, BV = the observed beginning value for the series, and Div = the amount of any dividends paid during the period.

  In this example, all of the necessary information has been provided and the calculation of the expected return on this stock market series is found as follows:

  E(R) = [$609.15 - $515. 60 + $24] / $515. 60 = 22. 80%

  This is slightly higher than the required rate of return. Assuming that the ending value and dividends prove accurate, investment in this stock market series is likely advisable.

• Question 739:

  The statement of cash flows includes sections on all of the following except ________.

  A. financing activities
  B. purchasing activities
  C. investing activities
  D. operating activities
  B. purchasing activities

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  Explanation

  Operating, investing and financing are the 3 activities depicted on that statement of cash flows.

• Question 740:

  Which of the following is/are true?

  I. If a test always rejects the null, its significance level is zero.

  II. If a test always accepts the null, the probability of type II error equals zero.

  III.

  If the p-value exceeds the significance level, you cannot reject the null.

  A. II only
  B. I only
  C. III only
  D. II and III
  C. III only

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  Explanation

  The lowest significance level at which the null hypothesis can be rejected is called the p-value of the test. Thus, if the p-value is less than the significance level, the null hypothesis can be rejected at that significance level; otherwise, you must fail to reject the null. The significance level in hypothesis testing refers to the probability that we will reject the null when it is true. Hence, if we always reject the null, the probability of rejecting it when it is true equals 1. A Type II error occurs when we fail to reject the null when in fact it is false. Therefore, if we always accept the null, we will never reject it even when it is false. So the probability of Type II error will equal 1.