Question

6) Over a 25-year period an asset had an arithmetic return of 13.1 percent and a geometric return of 12.6 percent. Using Blume's formula, what is your best estimate of the future annual returns over the next 10 years? A) 11.84 percent B) 13.04 percent C) 12.46 percent D) 11.18 percent E) 12.91 percent 6 7) Which one of the following statements is correct based on the period 1926-2016? A) The standard deviation of the annual rate of inflation was less than 3 percent. B) The risk premium on all U.S. government securities is 0 percent. C) Long-term government bonds had more volatile annual returns than did the long-term corporate bonds. D) U.S Treasury bills have a zero variance in returns because they are risk-free. E) The risk premium on small-company stocks was less than 10 percent.

Answer 1

Q - 6

Blume's formula:

N-T T-1 × Geometric average +--× Arithmetic average N-1 R (T) N-1

where T is the period over which return is to be forecast, N = number of historical years over which estimate is available, R(T) is the forecast return over T nos. of future years.

IN this case, T = 10, N = 25

Hence, R(10) = (10 - 1) /(25 - 1) x 12.6% + (25 - 10) / (25 - 1) x 13.1% = 12.91%

Hence, the correct answer is option E)

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Q - 7

The correct answer is option C)

Long term government bonds returns were more volatile than that of corporate bonds. Other statements are not true.