Finance Ch 2 Quiz

1.) The NYSE is defined as a "primary" market because it is one of the largest and most important stock markets in the world. Answer: False 2.) Which of the following statements is CORRECT? Select one: a. The NYSE operates as an auction market, whereas NASDAQ is an example of a dealer market b. Money market mutual funds usually invest their money in a well-diversified portfolio of liquid common stocks. c. Money markets are markets for long-term debt and common stocks. d. A liquid security is a security whose value is derived from the price of some other "underlying" asset e. While the distinctions are becoming blurred, investment banks generally specialize in lending money, whereas commercial banks generally help companies raise capital from other parties. Answer: The NYSE operates as an auction market, whereas NASDAQ is an example of a dealer market. 3.) The "over-the-counter" market received its name years ago because brokerage firms would hold inventories of stocks and then sell them by literally passing them over the counter to the buyer. Answer: True 4.) Each stock's rate of return in a given year consists of a dividend yield (which might be zero) plus a capital gains yield (which could be positive, negative, or zero). Such returns are calculated for all the stocks in the S&P 500. A simple average of those returns (which gives equal weight to each company in the S&P 500) is then calculated. That average is called "the return on the S&P Index," and it is often used as an indicator of the "return on the market." Answer: False 5.) You recently sold 200 shares of Disney stock, and the transfer was made through a broker. This is an example of: Answer: A secondary market transaction. 6.) A share of common stock is not a derivative, but an option to buy the stock is a derivative because the value of the option is derived from the value of the stock. Answer: True 7.) In a "Dutch auction" for new stock, individual investors place bids for shares directly. Each potential bidder indicates the price he or she is willing to pay and how many shares he or she will purchase at that price. The highest price that permits the company to sell all the shares it wants to sell is determined, and this is the "market clearing price." All bidders who specified this price or higher are allowed to purchase their shares at the market clearing price. Answer: True 8.) If you decide to buy 100 shares of Google, you would probably do so by calling your broker and asking him or her to execute the trade for you. This would be defined as a secondary market transaction, not a primary market transaction. Answer: True 9.) When a corporation's shares are owned by a few individuals who are associated with the firm's management, we say that the stock is closely held. Answer: True 10.) A publicly owned corporation is a company whose shares are held by the investing public, which may include other corporations as well as institutional investors. Answer: True 11.) Which of the following statements is CORRECT? Select one: a. The NYSE is an example of an over-the-counter market. b. As they are generally defined, money market transactions involve debt securities with maturities of less than one year. c. d. Only institutions, and not individuals, can engage in derivative market transactions. d. If Disney issues additional shares of common stock through an investment banker, this would be a secondary market transaction. e. If you purchase 100 shares of Disney stock from your brother-in-law, this is an example of a primary market transaction. Answer: As they are generally defined, money market transactions involve debt securities with maturities of less than one year. 12.) Which of the following statements is CORRECT? Select one: a. If an investor sells shares of stock through a broker, then it would be a primary market transaction. b. While the distinctions are blurring, investment banks generally specialize in lending money, whereas commercial banks generally help companies raise capital from other parties c. Capital markets deal only with common stocks and other equity securities. d. Home mortgage loans are traded in the money market. e. The New York Stock Exchange is an auction market, and it has a physical location Answer: The New York Stock Exchange is an auction market, and it has a physical location 13.) Money markets are markets for Answer: Short-term debt securities such as Treasury bills and commercial paper. 14.) The NYSE is defined as a "spot" market purely and simply because it has a physical location. The NASDAQ, on the other hand, is not a spot market because it has no one central location. Answer: False 15.) Which of the following statements is CORRECT? Select one: a. Hedge funds have more in common with commercial banks than with any other type of financial institution. b. Hedge funds have more in common with investment banks than with any other type of financial institution. c. Hedge funds are legal in Europe and Asia, but they are not permitted to operate in the United States. d. Hedge funds are not as highly regulated as most other types of financial institutions. The justification for this light regulation is that only "sophisticated investors" (i.e., those with high net worths and high incomes) are permitted to invest in these funds, and these investors supposedly can do any necessary "due diligence" on their own rather than have it done by the SEC or some other regulator. e. Hedge funds are legal in the United States, but they are not permitted to operate in Europe or Asia. Answer: Hedge funds are not as highly regulated as most other types of financial institutions. The justification for this light regulation is that only "sophisticated investors" (i.e., those with high net worths and high incomes) are permitted to invest in these funds, and these investors supposedly can do any necessary "due diligence" on their own rather than have it done by the SEC or some other regulator. 16.) You recently sold 100 shares of Microsoft stock to your brother at a family reunion. At the reunion your brother gave you a check for the stock and you gave your brother the stock certificates. Which of the following best describes this transaction? Answer: This is an example of a direct transfer of capital. 17.) The annual rate of return on any given stock can be found as the stock's dividend for the year plus the change in the stock's price during the year, divided by its beginning-of-year price. If you obtain such data on a large portfolio of stocks, like those in the S&P 500, find the rate of return on each stock, and then average those returns, this would give you an idea of stock market returns for the2 year in question. Answer: True 18.) A financial intermediary is a corporation that takes funds from investors and then provides those funds to those who need capital. A bank that takes in demand deposits and then uses that money to make long-term mortgage loans is one example of a financial intermediary. Answer: True 19.) The NYSE is defined as a "primary" market because it is one of the largest and most important stock markets in the world Answer: False 20.) Primary markets are large and important, while secondary markets are smaller and less important. Answer: False 21.) Private markets are those like the NYSE, where transactions are handled by members of the organization, while public markets are those like the NASDAQ, where anyone can make transactions. Answer: False 22.) Financial institutions are more diversified today than they were in the past, when federal laws kept investment banks, commercial banks, insurance companies, and similar organizations quite separate. Today the larger financial services corporations offer a variety of services, ranging from checking accounts, to insurance, to underwriting securities, to stock brokerage Answer: True 23.) Hedge funds are somewhat similar to mutual funds. The primary differences are that hedge funds are less highly regulated, have more flexibility regarding what they can buy, and restrict their investors to wealthy, sophisticated individuals and institutions. Answer: True 24.) Trades on the NYSE are generally completed by having a brokerage firm acting as a "dealer" buy securities and adding them to its inventory or selling from its inventory. The NASDAQ, on the other hand, operates as an auction market, where buyers offer to buy, and sellers to sell, and the price is negotiated on the floor of the exchange. Answer: False 25.) The term IPO stands for "individual purchase order," as when an individual (as opposed to an institution) places an order to buy a stock. Answer: False 26.) If you wanted to know what rate of return stocks have provided in the past, you could examine data on the Dow Jones Industrial Index, the S&P 500 Index, or the NASDAQ Index. Answer: True 27.) The annual rate of return on any given stock can be found as the stock's dividend for the year plus the change in the stock's price during the year, divided by its beginning-of-year price. Answer: True 28.) Each stock's rate of return in a given year consists of a dividend yield (which might be zero) plus a capital gains yield (which could be positive, negative, or zero). Such returns are calculated for all the stocks in the S&P 500. A weighted average of those returns, using each stock's total market value, is then calculated, and that average return is often used as an indicator of the "return on the market." Answer: True 29.) Which of the following statements is CORRECT? Answer: Capital market instruments include both long-term debt and common stocks. 30.) Which of the following is a primary market transaction? Answer: IBM issues 2,000,000 shares of new stock and sells them to the public through an investment banker. 31.) Which of the following is an example of a capital market instrument? Answer: Preferred stock. 32.) Which of the following statements is CORRECT? Answer: Hedge funds are not as highly regulated as most other Hedge funds are not as highly regulated as most other types of financial institutions. The justification for this light regulation is that only "sophisticated investors" (i.e., those with high net worths and high incomes) are permitted to invest in these funds, and these investors supposedly can do any necessary "due diligence" on their own rather than have it done by the SEC or some other regulator. 33.) Which of the following statements is CORRECT? Answer: In a "Dutch auction," investors who want to buy shares in an IPO submit bids indicating how many shares they want to buy and the price they are willing to pay. The company determines how many shares it wants to sell. The highest price that enables the company to sell the desired number of shares is the price that all buyers must pay. 34.) Which of the following statements is CORRECT? Answer: Both NASDAQ dealers and "specialists" on the NYSE hold inventories of stocks. 35.) Which of the following statements is NOT CORRECT? Answer: "Going public" establishes a firm's true intrinsic value and ensures that a liquid market will always exist for the firm's shares.