Question

Part 1. True or False Questions (5 Points Each) Instruction: Evaluate the statement in each question. • If a statement is true, mark "True.” • If a statement is false, mark "False," and explain why it is false. 1. If CAPM holds, only the most risk averse investors hold the market portfolio. 2. If the market price of a stock is greater than its intrinsic value, investors should purchase the stock. 3. Diversification is most effective when security returns are perfectly positively corre- lated. 4. Preferred stock holders have a priority to the cash flows over bond holders in the event of bankruptcy. 5. Consider corporate bonds with different ratings. BBB-rated bonds have higher yields than the yields of AAA-rated bonds.

Answer 1

Question1 True

This is a assumption of Capital asset pricing model (CAPM) that only rational and Risk averse investor should hold the market portfolio as they will look for diversification to prevent the risks.

Question 2 False

If the Market Value is Greater than Intrinsic Value, then the investor will rely in fundamental analysis and should not purchase the stock as it is overvalued. It also Shows that there is selling pressure from the investor side that will push the price downwards.

Question 3 False

Diversification is Most effective when the securities are Negatively correlated. In Positive Correlation Securites Move in same direction while in Negative Correlation it moves in Opposite direction. so, In order to gain High rate of returns it is beneficial to Diversify the portfolio when there is Negative Correlation.

Question 4 True

Preferred Stocks are given priority over common stock holders, they receive fix amount of interest over the period and has Limited voting rights but they are given priority to cash flow. While bonds is a debt security that the company issues to Investors but it is backed by Company worthiness and rated by credit agencies which shows the worthiness of the bonds.

Question 5 True

The bonds that has higher ratings gives less rate of returns because there is less risk associated to it while lower ratings has higher returns because there is more risk involved than high rated bonds. AAA- Rating is a Better rating than BBB- so there will be less yield than latter one.