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Mbad 732: Investment Finance Question Paper
Mbad 732: Investment Finance
Course:Masters Of Business Administration
Institution: Chuka University question papers
Exam Year:2013
CHUKA
UNIVERSITY
UNIVERSITY EXAMINATIONS
SECOND YEAR EXAMINATION FOR THE AWARD OF
DEGREE OF MASTERS OF BUSINESS ADMINISTRATION
MBAD 732: INVESTMENT FINANCE
STREAMS: MBAD Y2S1 TIME: 3 HOURS
DAY/DATE: WEDNESDAY 24/4/2013 5.30 PM – 8.30 PM
INSTRUCTIONS:
• Answer Question ONE and any other THREE Questions
• Show all your workings
• Do not write on the Question paper
QUESTION ONE: COMPULSORY
QUESTION ONE
(a) Explain three possible uses of Capital Asset Pricing Model (CAPM). Illustrate.
[6 Marks]
(b) What assumptions must be made in deriving the capital Asset Pricing Model (CAPM)?
Explain. [7 Marks]
(c) Stocks A and B have the following historical returns:
Stock A’s Returns
Stock B’s Returns
year Ra Rb
2000 -18% -24%
2001 44 24
2002 -22% -4
2003 22 8
2004 34% 56
(i) Calculate the average rate of return for each of the stock during the 5-year period. Assume that someone held a portfolio consisting of 50 percent Stock A and 50 per cent of stock B. What would have been realized rate of return on the portfolio in each year so the average return on portfolio during this period?
(ii) Calculate the standard deviation of returns for each stock and for the portfolio.
[7 Marks]
(d) Bank A pays 8 per cent interest, compounded quarterly, on its money market account. The managers of Bank B want its money market account to equal Bank A’s effective annual rate, but interest is to be compounded on a monthly basis. What nominal, or quoted, rate must Bank B set? [5 Marks]
QUESTION TWO
(a) Provide a clear distinction between the following financial market instruments as tools of investment
(i) Treasury bills [2 Marks]
(ii) Repurchase agreements [2 Marks]
(iii) Treasury bills [2 Marks]
(b) With clear examples, explain the application of utility theory in investment decision making process. [12 Marks]
(c) A share is currently selling for Sh. 120. There are two possible prices of the share after one year: Ksh 132 or Shs 105. Assume that risk-free rate of return is 9 per cent per annum. What is the value of one-year call option (European) with an exercise price of Ksh 125? [7 Marks]
QUESTION THREE
(a) “Technical approach to investment is essentially an attempt to exploit recurring and predictable patterns in stock prices to generate abnormal trading profits”. In the light of this statement, examine the basic principles of technical analysis and state how the assumptions of EMH crash head on with those of technical analysis. [6 Marks]
(b) P Ltd has an expected return of 22 per cent and standard deviation of 40 per cent. Q Ltd has an expected return of 24 per cent and standard deviation of 38 per cent. P has a beta of 0.86 and 1.24. The correlation between the returns of P and Q is 0.72. The standard deviation of the market return is 20 per cent.
(i) Is investing in Q better than investing in p? [2 Marks]
(ii) If you invest in 30 per cent in Q and 70 per cent in P, what is your expected rate of return and the portfolio standard deviation? [4 Marks]
(iii) What is the market portfolio’s expected rate of return and how much is risk-free rate? [4 Marks]
(iv) What is the beta of portfolio if P’s weight is 70 percent and Q is 30 per cent?
[2 Marks]
(c) Explain the following terms as used in bond valuation
(i) Immunization [2 Marks]
(ii) Laddering [2 Marks]
(iii) Yield to maturity [3 Marks]
QUESTION FOUR
(a) Price risk and coupon investment risk have an opposite effect on an investor’s ending wealth position. Explain
(b) Explain the yield curve as used in investment giving reasons for an upward sloping yield
curve. [5 Marks]
(c) Your company expects to pay dividend of Shs. 7 next year that is expected to grow at 6 per cent . It retains 30 per cent of earnings.
Required:
(i) Calculate the expected earnings per share next year (EPS) [3 Marks]
(ii) Return on equity (ROE) [3 Marks]
(iii) The value of growth opportunities [9 Marks]
QUESTION FIVE
(a) Differentiate among investment, speculation and gambling [6 Marks]
(b) Explain the following theories of term structure of interest rates:
(i) The expectation theory [3 Marks]
(ii) The liquidity premium theory [3 Marks]
(iii) The market segmentation theory [3 Marks]
(c) A company is currently paying a dividend of Ksh 2.00 per share. The dividend is expected to grow at a 15 per cent annual rate for three years, then at 10 per cent rate for the next 3 years, after which it is expected to grow at 5 per cent rate, forever.
(i) What is the present value of the share if the capitalisation rate is 9 per cent? [6 Marks]
(ii) If the share is held for three years, what shall be its present value? [3 Marks]
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