CFA Quant Level 1

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Time Value of Money
1. An annuity is a(n):
a. level stream of perpetual cash flows.
b. level stream of cash flows occurring for a fixed period of time.
c. increasing stream of perpetual cash flows.
d. increasing stream of cash flows occurring for a fixed period of time.
e. decreasing stream of cash flows occurring for a fixed period of time.
2. How is an annuity due defined?

a. a stream of cash flows occurring for less than one year
b. an annuity stream of payments that are disbursed rather than received
c. an annuity stream of payments that are received rather than disbursed
d. a set of equal cash flows occurring at the end of each period
e. a set of equal cash flows occurring at the beginning of each period
3. An annuity stream where the payments occur forever is called a(n):

a. annuity due.
b. indemnity.
c. perpetuity.
d. amortized cash flow stream.
e. ordinary annuity.
4. What is the interest rate that is expressed as if it were compounded once per year called?
a. stated interest
b. compound interest
c. effective annual
d. periodic interest
e. daily interest
5. You are comparing two annuities which offer monthly payments of $500 for ten years
and pay 0.5 percent interest per month. Annuity A will pay you on the first of each month
while annuity B will pay you on the last day of each month. Which one of the following
statements is correct concerning these two annuities?
a. Both annuities are of equal value today.
b. Annuity B is an annuity due.
c. Annuity A has a higher future value than annuity B.
d. Annuity B has a higher present value than annuity A.
e. Both annuities have the same future value as of ten years from today.
6. You are comparing two investment options that pay 7 percent interest annually. Both
options will provide you with $20,000 of income. Option A pays five annual payments
starting with $8,000 the first year followed by four annual payments of $3,000 each. Option
B pays five annual payments of $4,000 each. Which one of the following statements is
correct given these two investment options?
a. Both options are of equal value given that they both provide $20,000 of income.
b. Option A is the better choice.
c. Option B has a higher present value than option A.

d. Option B is a perpetuity.
e. Option A is preferable because it is an annuity due.
7. You are considering two projects with the following cash flows:
Which of the following statements are true concerning these two projects?
I. Both projects have the same future value at the end of year 4, given a positive rate of
return.
II. Both projects have the same future value given a zero rate of return.
III. Both projects have the same future value at any point in time, given a positive rate of
return.
IV. Project B has a higher future value than project A, given a positive rate of return.
a. II only
b. IV only
c. I and III only
d. II and IV only
e. I, II, and III only
8. How does a perpetuity differ from an annuity?
a. perpetuity payments vary with the rate of inflation

b. perpetuity payments vary with the market rate of interest
c. perpetuity payments are variable while annuity payments are constant
d. perpetuity payments never cease
e. annuity payments are smaller in amount
9. Which of the following statements concerning the effective annual rate are correct?
I. When making financial decisions, you should compare effective annual rates rather than
annual percentage rates.
II. The more frequently interest is compounded, the higher the effective annual rate given a
fixed annual percentage rate.
III. A quoted rate of 6 percent compounded continuously has a higher effective annual rate
than if the rate were compounded daily.
IV. When choosing which loan to accept, you should select the offer with the highest
effective annual rate.
a. I and II only
b. I and IV only
c. I, II, and III only
d. II, III, and IV only
e. I, II, III, and IV
10. The highest effective annual rate that can be derived from an annual percentage rate of 9
percent is computed as:
a. .09e 1.
b. e.09 q.
c. e (1 + .09).
d. e.09 1.
e. (1 + .09)q.
11. Your parents are giving you $500 a month for five years while you attend college to earn
both a bachelor's and a master's degree. At a 7 percent discount rate, what are these
payments worth to you when you first enter college?
a. $22,681.13
b. $24,601.18
c. $25,251.00
d. $27,209.17
e. $30,000.00
12. You just won the lottery! As your prize you will receive $1,500 a month for twenty years.
If you can earn 9 percent on your money, what is this prize worth to you today?
a. $152,087.19
b. $156,098.29
c. $157,408.16
d. $164,313.82
e. $166,717.43
13. Angela is able to pay $230 a month for 6 years on a car loan. If the interest rate is 7.9
percent, how much can she afford to borrow to buy a car?
a. $13,154.54
b. $13,408.17
c. $13,528.28
d. $13,666.67
e. $13,809.19
14. You are the beneficiary of a life insurance policy. The insurance company informs you
that you have two options for receiving the insurance proceeds. You can receive a lump sum
of $150,000 today or receive payments of $1,627.89 a month for 10 years. You can earn 7.5
percent on your money. Which option should you take and why?
a. You should accept the payments because they are worth $151,291.91 to you today.
b. You should accept the payments because they are worth $153,417.68 to you today.
c. You should accept the payments because they are worth $154,311.12 to you today.
d. You should accept the $150,000 because the payments are only worth $137,141.17 to
you today.
e. You should accept the $150,000 because the payments are only worth $134,808.17 to you
today.
15. Your employer contributes $50 a week to your retirement plan. Assume that you work
for your employer for another 12 years and that the applicable discount rate is 8 percent.
Given these assumptions, what is this employee benefit worth to you today?
a. $20,046.80
b. $21,212.12
c. $21,406.14
d. $22,989.76
e. $23,521.79
16. You have a sub-contracting job with a local manufacturing firm. Your agreement calls
for annual payments of $82,000 for the next 3 years. At a discount rate of 9.5 percent, what
is this job worth to you today?
a. $162,556.16
b. $205,730.36
c. $209,408.37
d. $211,417.06
e. $213,918.01
17. Swenson & Swenson just decided to save $2,200 a month for the next 6 years as a safety
net for recessionary periods. The money will be set aside in a separate savings account
which pays 5.5 percent interest compounded monthly. They deposit the first $2,200 today.
If the company had wanted to deposit an equivalent lump sum today, how much would they
have had to deposit?
a. $130,297.18
b. $134,656.34
c. $135,273.51
d. $137,778.92
e. $138,001.14
18. You need some money today and the only friend you have that has any is your miserly
friend. He agrees to loan you the money you need, if you make payments of $15 a month for
the next nine months. In keeping with his reputation, he requires that the first payment be
paid today. He also charges you 2 percent interest per month. How much money are you
borrowing?
a. $120.67
b. $122.43
c. $124.88
d. $126.49
e. $135.00
19. You buy an annuity which will pay you $7,800 a year for 15 years. The payments are
paid on the first day of each year. What is the value of this annuity today if the discount rate
is 12 percent?
a. $53,124.74
b. $59,499.71
c. $62,407.18
d. $64,311.21
e. $65,258.58
20. You are scheduled to receive annual payments of $15,000 for each of the next 13 years.
The discount rate is 9 percent. What is the difference in the present value if you receive
these payments at the beginning of each year rather than at the end of each year?
a. $9,211.07
b. $9,698.17
c. $9,704.38
d. $9,876.47
e. $10,107.32
21. You are comparing two annuities with equal present values. The applicable discount
rate is 11.25 percent. One annuity pays $6,000 on the first day of each year for 25 years.
How much does the second annuity pay each year for 25 years if it pays at the end of each
year?
a. $6,350
b. $6,408
c. $6,675
d. $6,921
e. $7,100
22. Betsy receives $600 on the first of each month. Jen receives $600 on the last day of each
month. Both Betsy and Jen will receive payments for four years. At a 7 percent discount rate,
what is the difference in the present value of these two sets of payments?
a. $135.40
b. $137.46
c. $138.09
d. $141.41
e. $146.16
23. What is the future value of $3,400 a year for 6 years at a 9 percent rate of interest?
a. $22,051.60
b. $23,876.49
c. $24,011.77
d. $25,579.34
e. $27,881.48
a. $17,409.08
b. $19,763.68
c. $21,254.45
d. $23,136.19
e. $25,222.22
25. Marcia plans on saving $6,000 a year and expects to earn an annual rate of 11.5 percent.
How much will she have in her account at the end of 40 years?
a. $4,007,098
b. $4,467,914
c. $5,911,408
d. $6,221,009
e. $6,347,238
26. Christie adds $2,000 to her savings account on the first day of each year. Todd adds
$2,000 to his savings account on the last day of each year. They both earn a 7 percent rate of
return. What is the difference in their savings account balances at the end of 25 years?
a. $8,854.86
b. $9,003.48
c. $9,126.39
d. $9,130.07
e. $9,041.14
27. You borrow $14,500 to buy a car. The terms of the loan call for monthly payments for 6
years at a 6.9 percent rate of interest. What is the amount of each payment?
a. $238.87
b. $240.27
c. $246.51
d. $249.08
e. $252.50
28. You borrow $187,500 to buy a house. The mortgage rate is 7.25 percent and the loan
period is 25 years. Payments are made monthly. If you pay for the house according to the
loan agreement, how much total interest will you pay?
a. $186,408
b. $219,079
c. $227,001
d. $264,319
e. $291,406
29. The Home Improvement Center (HIC) has an employment contract with the newly hired
CEO. The contract requires a lump sum payment of $32.4 million be paid to the CEO upon
the successful completion of her first five years of service. HIC wants to set aside an equal
amount of money at the end of each year to cover this anticipated cash outflow and will earn
7.25 percent on the funds. How much must HIC set aside each year for this purpose?
a. $5,227,064
b. $5,606,026
c. $5,668,987
d. $6,778,958
e. $7,270,433
30. Pat retires at age 58 and expects to live to age 90. On the day she retires, she has
$287,409 in her retirement savings account. She is conservative and expects to earn 5.25
percent on her money during her retirement years. How much can she withdraw from her
retirement savings each month if she plans to die on the day she spends her last penny?
a. $1,359.79
b. $1,364.18
c. $1,540.01
d. $1,546.75
e. $1,702.11
31. The Chelsey Group purchased a piece of property for $4.8 million. They paid a down
payment of 25 percent in cash and financed the balance. The loan terms require monthly
payments for 25 years at an annual percentage rate of 8.65 percent compounded monthly.
What is the amount of each mortgage payment?
a. $27,804.13
b. $27,989.62
c. $28,406.23
d. $29,142.91
e. $29,352.98
32. You estimate that you will have $31,870 in student loans by the time you graduate. The
interest rate is 5.45 percent. If you want to have this debt paid in full within four years, how
much must you pay each month?
a. $737.11
b. $738.82
c. $739.34
d. $740.46
e. $741.09
33. You are buying a previously owned car today at a price of $4,950. You are paying $750
down in cash and financing the balance for 42 months at 8.45 percent. What is the amount of
each loan payment?
a. $108.54
b. $115.05
c. $115.86
d. $135.60
e. $136.55
34. The Helping Hand Insurance Company wants to sell you an annuity which will pay you
$2,750 per quarter for 20 years. You want to earn a minimum rate of return of 6.25 percent.
What is the most you are willing to pay as a lump sum today to buy this annuity?
a. $125,085.43
b. $127,039.89
c. $179,544.36
d. $193,573.08
e. $198,747.27
Multiple Choice Questions
1. An annuity is a(n):
a. level stream of perpetual cash flows.
B. level stream of cash flows occurring for a fixed period of time.
c. increasing stream of perpetual cash flows.
d. increasing stream of cash flows occurring for a fixed period of time.
e. decreasing stream of cash flows occurring for a fixed period of time.
2. How is an annuity due defined?

a. a stream of cash flows occurring for less than one year
b. an annuity stream of payments that are disbursed rather than received
c. an annuity stream of payments that are received rather than disbursed
d. a set of equal cash flows occurring at the end of each period
E. a set of equal cash flows occurring at the beginning of each period
3. An annuity stream where the payments occur forever is called a(n):

a. annuity due.
b. indemnity.
C. perpetuity.
d. amortized cash flow stream.
e. ordinary annuity.
4. What is the interest rate that is expressed as if it were compounded once per year called?
a. stated interest
b. compound interest
C. effective annual
d. periodic interest
e. daily interest
5. You are comparing two annuities which offer monthly payments of $500 for ten years
and pay 0.5 percent interest per month. Annuity A will pay you on the first of each month
while annuity B will pay you on the last day of each month. Which one of the following
statements is correct concerning these two annuities?
a. Both annuities are of equal value today.
b. Annuity B is an annuity due.
C. Annuity A has a higher future value than annuity B.
d. Annuity B has a higher present value than annuity A.
e. Both annuities have the same future value as of ten years from today.
6. You are comparing two investment options that pay 7 percent interest annually. Both
options will provide you with $20,000 of income. Option A pays five annual payments
starting with $8,000 the first year followed by four annual payments of $3,000 each. Option
B pays five annual payments of $4,000 each. Which one of the following statements is
correct given these two investment options?
a. Both options are of equal value given that they both provide $20,000 of income.
B. Option A is the better choice.
c. Option B has a higher present value than option A.

d. Option B is a perpetuity.
e. Option A is preferable because it is an annuity due.
7. You are considering two projects with the following cash flows:
Which of the following statements are true concerning these two projects?
I. Both projects have the same future value at the end of year 4, given a positive rate of
return.
II. Both projects have the same future value given a zero rate of return.
III. Both projects have the same future value at any point in time, given a positive rate of
return.
IV. Project B has a higher future value than project A, given a positive rate of return.
a. II only
b. IV only
c. I and III only
D. II and IV only
e. I, II, and III only
8. How does a perpetuity differ from an annuity?
a. perpetuity payments vary with the rate of inflation

b. perpetuity payments vary with the market rate of interest
c. perpetuity payments are variable while annuity payments are constant
D. perpetuity payments never cease
e. annuity payments are smaller in amount
9. Which of the following statements concerning the effective annual rate are correct?
I.. Whe making financial decisions, you should compare effective annual rates rather than
annual percentage rates.
II.
I. T more frequently interest is compounded, the higher the effective annual rate given a
fixed annual percentage rate.
III. A quoted rate of 6 percent compounded continuously has a higher effective annual rate
than if the rate were compounded daily.
IV.
V. When cho ng which loan to accept, you should select the offer with the highest
effective annual rate.
a.. I and II on
b.. I and only
C. I, II, nd III only
d.. II, II, and IV only
e.. I, II, I, and IV
10. The highest effective annual rate that can be derived from an annual percentage rate of 9
percent is computed as:
a. .09e 1.
b. e.09 q.
c. e (1 + .09).
D. e.09 1.
e. (1 + .09)q.
11. Your parents are giving you $500 a month for five years while you attend college to earn
both a bachelor's and a master's degree. At a 7 percent discount rate, what are these
payments worth to you when you first enter college?
a. $22,681.13
b. $24,601.18
C. $25,251.00
d. $27,209.17
e. $30,000.00
12. You just won the lottery! As your prize you will receive $1,500 a month for twenty years.
If you can earn 9 percent on your money, what is this prize worth to you today?
a. $152,087.19
b. $156,098.29
c. $157,408.16
d. $164,313.82
E. $166,717.43
13. Angela is able to pay $230 a month for 6 years on a car loan. If the interest rate is 7.9
percent, how much can she afford to borrow to buy a car?
A. $13,154.54
b. $13,408.17
c. $13,528.28
d. $13,666.67
e. $13,809.19
14. You are the beneficiary of a life insurance policy. The insurance company informs you
that you have two options for receiving the insurance proceeds. You can receive a lump sum
of $150,000 today or receive payments of $1,627.89 a month for 10 years. You can earn 7.5
percent on your money. Which option should you take and why?
a. You should accept the payments because they are worth $151,291.91 to you today.
b. You should accept the payments because they are worth $153,417.68 to you today.
c. You should accept the payments because they are worth $154,311.12 to you today.
D. You should accept the $150,000 because the payments are only worth $137,141.17 to
you today.
e. You should accept the $150,000 because the payments are only worth $134,808.17 to you
today.
15. Your employer contributes $50 a week to your retirement plan. Assume that you work
for your employer for another 12 years and that the applicable discount rate is 8 percent.
Given these assumptions, what is this employee benefit worth to you today?
A. $20,046.80
b. $21,212.12
c. $21,406.14
d. $22,989.76
e. $23,521.79
16. You have a sub-contracting job with a local manufacturing firm. Your agreement calls
for annual payments of $82,000 for the next 3 years. At a discount rate of 9.5 percent, what
is this job worth to you today?
a. $162,556.16
B. $205,730.36
c. $209,408.37
d. $211,417.06
e. $213,918.01
17. Swenson & Swenson just decided to save $2,200 a month for the next 6 years as a safety
net for recessionary periods. The money will be set aside in a separate savings account
which pays 5.5 percent interest compounded monthly. They deposit the first $2,200 today.
If the company had wanted to deposit an equivalent lump sum today, how much would they
have had to deposit?
a. $130,297.18
b. $134,656.34
C. $135,273.51
d. $137,778.92
e. $138,001.14
18. You need some money today and the only friend you have that has any is your miserly
friend. He agrees to loan you the money you need, if you make payments of $15 a month for
the next nine months. In keeping with his reputation, he requires that the first payment be
paid today. He also charges you 2 percent interest per month. How much money are you
borrowing?
a. $120.67
b. $122.43
C. $124.88
d. $126.49
e. $135.00
19. You buy an annuity which will pay you $7,800 a year for 15 years. The payments are
paid on the first day of each year. What is the value of this annuity today if the discount rate
is 12 percent?
a. $53,124.74
B. $59,499.71
c. $62,407.18
d. $64,311.21
e. $65,258.58
20. You are scheduled to receive annual payments of $15,000 for each of the next 13 years.
The discount rate is 9 percent. What is the difference in the present value if you receive
these payments at the beginning of each year rather than at the end of each year?
a. $9,211.07
b. $9,698.17
c. $9,704.38
d. $9,876.47
E. $10,107.32
Difference = $122,410.88 $112,303.56 = $10,107.32

Note: The difference = .09 $112,303.5589 = $10,107.32
21. You are comparing two annuities with equal present values. The applicable discount
rate is 11.25 percent. One annuity pays $6,000 on the first day of each year for 25 years.
How much does the second annuity pay each year for 25 years if it pays at the end of each
year?
a. $6,350
b. $6,408
C. $6,675
d. $6,921
e. $7,100
Because each payment is received one year later, then the cash flow has to equal: $6,000
(1 + .1125) = $6,675
22. Betsy receives $600 on the first of each month. Jen receives $600 on the last day of each
month. Both Betsy and Jen will receive payments for four years. At a 7 percent discount rate,
what is the difference in the present value of these two sets of payments?
a. $135.40
b. $137.46
c. $138.09
d. $141.41
E. $146.16
Difference = $25,202.28 $25,056.12 = $146.16
Note: Difference
a. $22,051.60
b. $23,876.49
c. $24,011.77
D. $25,579.34
e. $27,881.48
a. $17,409.08
B. $19,763.68
c. $21,254.45
d. $23,136.19
e. $25,222.22
25. Marcia plans on saving $6,000 a year and expects to earn an annual rate of 11.5 percent.
How much will she have in her account at the end of 40 years?
A. $4,007,098
b. $4,467,914
c. $5,911,408
d. $6,221,009
e. $6,347,238
26. Christie adds $2,000 to her savings account on the first day of each year. Todd adds
$2,000 to his savings account on the last day of each year. They both earn a 7 percent rate of
return. What is the difference in their savings account balances at the end of 25 years?
A. $8,854.86
b. $9,003.48
c. $9,126.39
d. $9,130.07
e. $9,041.14
Difference = $135,352.94 $126,498.08 = $8,854.86

Note: Difference = $126,498.08 .07 = $8,854.8656
27. You borrow $14,500 to buy a car. The terms of the loan call for monthly payments for 6
years at a 6.9 percent rate of interest. What is the amount of each payment?
a. $238.87
b. $240.27
C. $246.51
d. $249.08
e. $252.50
28. You borrow $187,500 to buy a house. The mortgage rate is 7.25 percent and the loan
period is 25 years. Payments are made monthly. If you pay for the house according to the
loan agreement, how much total interest will you pay?
a. $186,408
B. $219,079
c. $227,001
d. $264,319
e. $291,406
Total interest = ($1,355.262871 25 12) $187,500 = $219,079

29. The Home Improvement Center (HIC) has an employment contract with the newly hired
CEO. The contract requires a lump sum payment of $32.4 million be paid to the CEO upon
the successful completion of her first five years of service. HIC wants to set aside an equal
amount of money at the end of each year to cover this anticipated cash outflow and will earn
7.25 percent on the funds. How much must HIC set aside each year for this purpose?
a. $5,227,064
B. $5,606,026
c. $5,668,987
d. $6,778,958
e. $7,270,433
30. Pat retires at age 58 and expects to live to age 90. On the day she retires, she has
$287,409 in her retirement savings account. She is conservative and expects to earn 5.25
percent on her money during her retirement years. How much can she withdraw from her
retirement savings each month if she plans to die on the day she spends her last penny?
a. $1,359.79
b. $1,364.18
c. $1,540.01
D. $1,546.75
e. $1,702.11
31. The Chelsey Group purchased a piece of property for $4.8 million. They paid a down
payment of 25 percent in cash and financed the balance. The loan terms require monthly
payments for 25 years at an annual percentage rate of 8.65 percent compounded monthly.
What is the amount of each mortgage payment?
a. $27,804.13
b. $27,989.62
c. $28,406.23
d. $29,142.91
E. $29,352.98
Amount financed = $4,800,000 (1 .25) = $3,600,000
32. You estimate that you will have $31,870 in student loans by the time you graduate. The
interest rate is 5.45 percent. If you want to have this debt paid in full within four years, how
much must you pay each month?
a. $737.11
b. $738.82
c. $739.34
D. $740.46
e. $741.09
33. You are buying a previously owned car today at a price of $4,950. You are paying $750
down in cash and financing the balance for 42 months at 8.45 percent. What is the amount of
each loan payment?
a. $108.54
b. $115.05
C. $115.86
d. $135.60
e. $136.55
Amount financed = $4,950 $750 = $4,200
34. The Helping Hand Insurance Company wants to sell you an annuity which will pay you
$2,750 per quarter for 20 years. You want to earn a minimum rate of return of 6.25 percent.
What is the most you are willing to pay as a lump sum today to buy this annuity?
A. $125,085.43
b. $127,039.89
c. $179,544.36
d. $193,573.08
e. $198,747.27

Discounted Cash Flow Applications

1. Capital budgeting, being the process that companies use for decision making
of capital projects, would least likely be used to make a decision regarding:

a. The introduction of new products
b. An increase in the levels of inventory carried for a national retailer
c. The replacement of equipment which has significant economic life
remaining with newer, more productive equipment

Consider the two proposed capital projects, Project A and Project B. Each
project has an initial cost of $12,000 and the cost of capital for each project is
10.5%. The project’s expected net cash flows are as follows:

2. What are the NPVs for Project A and Project B respectively?

a. $13,115.04 and $12,857.02
b. $1,115.04 and $857.02
c. $1,009.09 and $775.58

3. Calculate each project’s IRR.

a. 15.93% (A) and 13.78% (B)
b. 10.5% for each of A and B
c. Project A has unconventional cash flows and thus has multiple IRRs
and Project B’s IRR is 13.78%

4. If these were mutually exclusive projects, how would your results for NPV
and IRR influence your decision?
a. Select on NPV but ignore IRR as it would offer conflicting rankings for
Project A due to its unconventional cash flows
b. Both NPV and IRR would rank these projects the same way
c. NPV is the only way in which to rank these two projects without
conflicts

5. What is the NPV and IRR for an investment requiring $3.43 million that is
expected to increase annual cash flows by $1M for each of the next 5 years,
assuming WACC = 15%

a. NPV = -$0.08M and IRR = 14%
b. NPV = $0 and IRR = 15%
c. NPV = $0.08M and IRR = 16%

6. With reference to the formulas that precede the questions for this section,
which one represents the money-weighted arte of return?

a. 2
b. 3
c. 7

7. The twrr is:
a. An arithmetic average of the holding period returns
b. A geometric average of the holding period returns
c. A summation of the holding period returns

8. Which is an interest bearing money market security?
a. T-Bill
b. Banker’s Acceptance
c. Negotiable Certificates of Deposit

9. A 91-day T-Bill sold on a bank discount basis of 2.8%. The T-Bill sold for:
a. 97.20
b. 99.29
c. 99.31

10. What is the EAY of the T-Bill in Q9 above?
a. 2.89%
b. 2.86%
c. 2.80%

11. Which formula will produce the lowest return yield?
a. 4
b. 6
c. 7

12. Which formula is the CD equivalent yield?
a. 4
b. 6
c. 7

Answers

1. B is correct. Inventory is not a capital budgeting decision, it is a working
capital management decision.

2. B is correct. For project B, N=4, PMT=4100, FV=0, I/Y=10.5 CPT PV = 12,857.
Subtract the $12K investment, NPV = $857. No need to calculate project A.

3. A is Correct. For project B, N=4, PV = -12,000, PMT = 4100, FV = 0, CPT I/Y =
13.78%. B is incorrect since in Q2 above we have established that Project a
has positive NPV, thus the IRR cannot equal 10.5%. C is incorrect since the
cash flows fro project A are not unconventional.

4. B is correct as discovered in Q3 above.

5. C is correct. PV of $1M for 5 years: N=5, I/Y =15%, FV=0, PMT = 1M, CPT PV
= 3,352,155. $3.43M - $3.352155M = $77.8456.

6. A is correct. The formula for mwrr is an IRR function.

7. B is correct. As can be seen from formula 3, the twrr is identical to the
calculation for the geometric average.

8. C is correct. Both the T-Bill and the Banker’s Acceptance are issued as pure
discount securities.

9. B is correct. Using formula 4, rBD = 0.28, F = 100, t = 91, and solve for D.

10. A is correct. First we determine the HPY (.7077/99.29 = 0.007127606). We
then use equation 6 with t=91 and solve for EAY.

11. A is correct. The bank discount yield uses simple interest rather than
compounding.

12. C is correct. The money market yield is also known as the CD equivalent
yield. This convention makes the quoted yield on a T-bill comparable to yield
quotations on interest-bearing money market instruments that pay interest
on a 360-day basis.


Statistical Concepts and Market Returns

1. Mean, variance, mode, and median are example of:

a. Inferential statistics
b. Descriptive statistics
c. Empirical statistics

2. Which are population parameters:

a. μ and σ 2
b. mean and variance
c. 𝑋 and s2

3. Investment styles categorized as Value, Growth, Aggressive Growth and
Speculative is an example of:

a. Ordinal data
b. Interval data
c. Nominal data

4. Which is an incorrect ranking of data measurement scales from strongest to
weakest?

a. Ratio – Interval –Nominal
b. Interval – Ordinal - Nominal
c. Interval – Ratio - Ordinal

5. State the scale of measurement for each of the following:

a. Variance
b. ROE
c. LIFO vs FIFO vs Average Cost
d. WACC
e. Inventory Turnover
f. Industry Classification Systems
g. Analyst Rankings in Institutional Investor

6. The methods used to determine something about a population on the basis of
a sample is called:

a. Inferential statistics
b. Applied statistics
c. Descriptive statistics

7. A specific characteristic (descriptor) of a sample is called a:

a. Variable
b. Parameter
c. Statistic

8. The set of all units of interest in a study is called a:

a. Sample
b. Population
c. Statistics

9. A Frequency distribution works with:

a. Ratio, Interval, and Ordinal data, but not nominal
b. Ratio and Interval only
c. Ratio, Interval, Ordinal and Nominal

10. With respect to a frequency distribution, the absolute frequency is:

a. The total number of observation within the range
b. The actual number of observations in a given interval
c. The proportion of observations in a given interval

11. After collecting data on returns on a market index for 35 years, an analyst
constructed a frequency distribution in order to get a visual depiction of the
distribution of the returns. After construction, the analyst noted many of the
intervals had no observations. You would advise the analyst:

a. That the data are most likely non-normally distributed
b. To widen the size of the intervals
c. To reduce the time period of the returns from annual to monthly

12. In order to have a running total of the number of observations included as we
move from the lowest interval to the highest in a frequency distribution, we
would use a:

a. Relative frequency
b. Cumulative frequency
c. Cumulative relative frequency

13. The following graph is not a:

a. Frequency polygon
b. Cumulative Absolute frequency
c. Cumualtive Relative frequency

14. To calculate the arithmetic mean from a sample, we:

a. Sum the quantities and divide by n
b. Sum the quantities and divide by n-1
c. Sum the quantities and divide by N

15. Which is not a property of the arithmetic mean?

a. 𝑛𝑋 = !!!! 𝑋𝑖
b. !!!! 𝑋𝑖 − 𝑛𝑋 = 0
!
c. !!!(𝑋𝑖 − 𝑋 )

16. The measure of central tendency that sits at the 50th percentile of a data set
that has been sorted in ascending or descending order is the:

a. Arithmetic mean
b. The median
c. Weighted median

17. In an data set with an even number of n, the median sits at:

a. The mean of the values at the n/2 and n + 1 positions
b. The mean of the values at the n/2 and (n + 2)/2 positions
c. The mean of the values at the n/2 and n + 2 positions

18. In a frequency distribution, the interval with the highest number of
observations is called the:

a. Peak interval
b. Modal interval
c. Median interval

19. What is the only measure of central tendency that can be used with all types
of measurement data?

a. Arithmetic mean
b. Median
c. Mode

20. A portfolio manager with equal weightings in cash, equities and bonds would
not calculate his annual average return using:

a. The mean
b. The weighted mean
c. The geometric mean

21. 30 years ago I was 20. What was the average change in my age per year?

a. 1
b. 3.1%
c. 30

22. The only time when the geometric mean and the arithmetic means will be the
same is when:

a. No observations are below zero
b. All observations are identical
c. The distribution of the observations follows a well behaved normal
distribution

!
23. The formula ! (!/!") does not describe:
!!!

a. A special type of weighted mean
b. A harmonic mean
c. The inverse of an arithmetic mean

24. What does the following formula do? Ly = (n + 1)*y/100

a. It finds the position of a percentile in an array with n entries
b. It finds the natural log expressing the rate of growth in the variable y
c. It finds the logarithm of the variable y

25. Given the array (23.45, 26.75, 32.65, 34.90, 41.44, 45,67, 47.56, 50.50, 51.22,
55.76), find the 65th percentile.

a. 48.00
b. 49.03
c. 45.95

26. As an analyst, you have been ranked is the 1st quartile based on performance.
This means that you:

a. Are among the top 25% of analysts in the rankings
b. Are among the bottom 25% of analysts in the ranking
c. Are among the top 20% of analysts in the rankings

27. Which is true given variability is an observed data set?

a. Geometric mean < Harmonic mean < arithmetic mean
b. Geometric mean = harmonic mean < arithmetic mean
c. Harmonic mean < geometric mean < arithmetic mean

28. What is the geometric mean return for a fund with 10 years of annual returns
of 2%, 6%, 9%, 9%, 10%, 11%, 16%, 14%, 5% and 8%?

a. 8.88%
b. 8.9%
c. 9.0%

29. Using Chebyshev’s inequality, at least what proportion of observations must
lie within 2 standard deviations of the mean?

a. 36%
b. 75%
c. 89%

30. What is the most likely standard deviation of sales if 68.3% of the
observations of sales are between $200,000 and $500,000?

a. 50,000
b. 75,000
c. 150,000

31. What is the average squared deviation below the mean?

a. Semivariance
b. Semideviation
c. Mean Absolute Deviation

32. To calculate the variance of a dataset of all Utility companies in the US, you
would use which formula (refer to the formulas just preceding the questions)

a. 8
b. 9
c. 10

33. To calculate a target semideviation, we would take the square root of which
formula?

a. 12
b. 13
c. 14

34. Which two formulas produce the same output?

a. 9 and 11
b. 8 and 10
c. 4 and 5

35. Which is the formula for Chebyshev’s inequality?

a. 13
b. 14
c. 15

36. Which formula would you sue to measure the amount of risk per unit of
mean return?

a. 11
b. 15
c. 16

37. You want buy a stock but want a measure of risk of loss. Which formula are
you most likely to use?

a. 9
b. 11
c. 12

38. What two formulas will give the same result when distributions are
symmetrical?

a. 2 and 4
b. 9 and 12
c. 15 and 16

39. For the results of Chebyshev’s inequality to be valid:

a. The sample or population data must be continuous and have a normal
distribution
b. The sample or population data must be discrete and have any shape
to its distribution
c. The sample or population data can be discrete or continuous and
have any shape to its distribution

40. Which formula gives a measure of relative dispersion?

a. 8
b. 10
c. 15

41. A distribution with SK = 0 and KE = 3 would have __________ observations
within 2 standard deviations of the mean.

a. 68.3%
b. 75%
c. 95.5%

42. Your investment strategy relies solely on buying calls on equities. You will
most likely have a:

a. Positively skewed return distribution
b. Negatively skewed return distribution
c. Symmetrical distribution

43. With reference to Q42 above, you also will have,

a. Mean return > median return
b. Median return > mean return
c. Median return = mean return

44. Your investment strategy relies on selling both calls and puts simultaneously
on selected equities. Your return distribution will most likely be:

a. Negatively skewed
b. Leptokurtic
c. Mesokurtic

Answer

1. B is Correct. Descriptive statistics is the study of how data can be
summarized effectively to describe the important aspect s of large data sets.

2. A is correct.

3. C is correct. Nominal data categorizes data but does not rank them

4. C is incorrect. From the strongest to the weakest is: Ratio – Interval – Ordinal
– Nominal

5. A. Ratio B. Ratio C. Nominal D. Ratio E. Ratio F. Nominal G Ordinal

6. A is correct. Inference involves making forecasts or estimates about a larger
group from a smaller group.

7. C is correct. A sample statistic is a quantity computed from or used to
describe a sample.

8. B is correct. A population is defined as all members of a specified group.

9. C is correct. Frequency distributions help in the analysis of large amounts of
data and they work with all types of measurement scales.

10. B is correct. The actual number of observation is a given interval is called the
absolute frequency, or simply the frequency.

11. B is correct. When the number of intervals is large, it is usually an indication
that the presenter is trying to organize the data to present too much detail.

12. B is correct. The frequency, or absolute frequency, reports the number of
observations in each interval. Thus, the cumulative frequency adds up the
number of observations in each interval at each successively higher interval.

13. A is correct. A frequency polygon looks like this.

14. A is correct. Since we are not using any sample
derived statistic to arrive at the mean, we do not
lose any degrees of freedom in the denominator.
Since this is a sample, we denote the number of
observations by n, rather than N.

15. C is correct. The arithmetic mean has the property that the sum of the
deviations sum to zero.

16. B is correct. The median is the middlemost value in a sorted data set.

17. B is correct. If n=10, the mean is the average of the two values at the 10/2
and 12/2 positions (5th and 6th)

18. B is correct. The mode is the observation with the highest frequency.

19. C is correct. Nominal data are simply categorical data. Mean and median are
meaningless, but mode still counts the frequency within each category.

20. C is correct. This is a single-period return, thus an arithmetic mean would be
used. He can use either the straight mean formula of a weighted mean since
he is equally weighted.

21. A is correct. I aged 1 year per year on average. B is incorrect since it is a
geometric average. The question did not ask for the average rate of change,
just the average change per year.

22. B is correct. The geometric mean is always less than the arithmetic mean
unless there is no variability in the observations.

23. C is correct. The formula is for the harmonic mean, which is a special type of
weighted mean in which an observation’s weight is inversely proportional to
its magnitude.

24. A is correct. It is the formula for the position of a percentile in an array with
n entries sorted in ascending order.

25. A is correct. (10+1)*65/100 = 7.15. The 7th and 8th entry are 47.56 and
50.50. Using linear interpolation, 15% of the distance between the two
results in 48.

26. B is correct. Observations are ranked in ascending order, so the first quartile
is the bottom 25%.

27. C is correct. The harmonic mean gives less weight to outliers and more
weight to smaller deviations, and is thus less that the geometric mean, which
we know, with variability, is less than the arithmetic mean.

28. B is correct. (1.02 * 1.06 * 1.09 * 1.09 * 1.1 * 1.11 * 1.16 * 1.14 * 1.05 * 1.08)
= 2.35207. (2.35207)^.1 – 1 = 8.929%

29. B is correct. 1 – (1/k^2) = 1 – (1/2^2) = 1 - (1/4) = 0.75

30. C is correct. 68.3% = +/- I sd from the mean. Thus the range = 2 sd. Range =
300,000. Thus I sd = 150,000

31. A is correct.

32. A is correct. All Utility companies represent a population. The variance of a
population is sigma-squared.

33. B is correct. Formula 13 gives us the target semivariance. The semideviation
is the square root of the semivariance.

34. C is correct. Both 4 and 5 are the formulation for geometric mean.

35. B is correct. 13 is Target Semivariance and 15 is the Coefficient of Variation

36. B is correct. The Coefficient of Variation is the ratio of the standard deviation
(a measure of risk) to its mean value (X-bar)

37. C is correct. Here you are only looking for a measure of the risk of loss – i.e.
downside risk. The semivariance is the appropriate measure.

38. B is correct. When distributions are symmetric, semivariance and variance
will produce the same result.

39. C is correct. The importance of Chebyshev's inequality stems from its
generality. The inequality holds for samples and populations and for discrete
and continuous data regardless of the shape of the distribution.

40. C is Correct. A and B gives measures of absolute dispersion. C is the
coefficient of variation, and it gives a measure of dispersion relative to the
mean.

41. C is correct. A distribution with SK = 0 and KE = 3 would be a normal
distribution, and such a distribution would have 95.5% of the observations 2
standard deviations above and below the mean.

42. A is correct. A return distribution with positive skew has frequent small
losses and a few extreme gains, matching the payoff prolife of long calls. A
return distribution with negative skew has frequent small gains and a few
extreme losses, matching the payoff profile of short calls.

43. A is correct. If a distribution is positively skewed then the mean will be
greater than its median, and more than half of the deviations from the mean
are negative and less than half are positive.

44. B is correct. Selling calls will produce a negatively skewed distribution. As
would selling puts. However, when done simultaneously on the same
underlying, the skews tend to cancel out. However, what is left over is a lot
of returns clustered closely around the mean (being more peaked) and more
returns with large deviations from the mean (having fatter tails). The
distribution would be more peaked than a normal distribution (which is
described as mesokurtic). A distribution that is more peaked than normal is
called leptokurtic.
Probability Concepts

1. The probability of an outcome:

a. Is the number of times that outcome occurs in the long-run
b. Equals M x N, where M is the number of occurrences and N is the
population size
c. Is the proportion of times that the outcome occurs in the long run

2. The probability of an event A or B occurring equals:

a. P(A) x P(B)
b. P(A) + P(B) if A and b are mutually exclusive
c. P(A) + P(B) even if A and B are not mutually exclusive

3. Probabilities based on the historical record are:

a. Empirical probabilities
b. A priori probabilities
c. Subjective probabilities

4. Referring to the formulas preceding these questions, which one represents
the Odd for and Event?

a. 1
b. 2
c. 3

5. The odds against BKS (Barnes and Noble) surviving more than 5 years are 16
to 1. Calculate P(BKS surviving more than 5 years).

a. 6.25%
b. 5.89%
c. 93.75%

6. The probability of there being a President Pence before 2020 is 91%. What
are the odds?

a. 9:1
b. 10:1
c. 11:1

7. Which formula will calculate a conditional probability?

a. 3
b. 4
c. 5

8. In determining the probability of an event A or an Event B occurring, we
would use:

a. The Multiplication Rule for Probabilities
b. The Addition Rule for Probabilities
c. The Total Probability Rule

9. Two random variables A and B are independently distributed if all the
following conditions hold, with the exception of:

a. P(A|B) = P(A)
b. P(AB) = P(A)P(B)/P(BA)
c. Knowing the value of one of the variables provides no information
about the other

10. If 3 independent screens are applied to 100 companies, 30 pass the first
screen, 10 pass the second screen, and 40 pass the third screen, the
probability of passing all three screens is closest to:

a. 1%
b. 8%
c. 10%

11. If there is a 25% probability of declining interest rates, there will be a 60%
probability of EPS = $10, and a 40% chance of EPS = $8. If rates do not
decline, then EPS = $6 with 70% probability and EPS = $4 otherwise. What is
E(EPS)?

a. $6.35
b. $7.30
c. $10.95

12. For the Total Probability Rule to be used to arrive at an unconditional
probability of an event in terms of probabilities conditioned on certain
scenarios, these scenarios must be:

a. Based on empirical probabilities
b. Based on exhaustive a priori probabilities
c. Mutually exclusive and exhaustive

13. The probability of a significant housing correction in major Canadian

markets in 2017 is 65%. Given a correction, the probability of at least a 20%
decline in prices is 80%. Without a correction such a decline has a
probability of only 8%. What is the probability of at least a 20% decline in
housing prices?

a. 55%
b. 52%
c. 88%

14. The probability-weighted average of the possible outcomes of the random
variable is:

a. Its total probability
b. Its expected value
c. Its conditional probability

15. What is the expected value of the following data set?

a. 548.50
b. 556.25
c. 562.5

16. In reference to the data set in Q15, what is the variance?

a. 70
b. 20,709
c. 4,810

17. With reference to the formulas preceding the questions, the formula for the
Multiplication Rule for Independent Events is given by:

a. 4
b. 6
c. 7

18. The Multiplication Rule for non-independent events not given by:

a. 3
b. 4
c. 5

19. You run a long/short fund invested in the following assets:

What was you return?

a. 2.93%
b. 0.29%
c. 1.63%

20. Negative covariance of returns between two assets means:

a. When one asset has positive return the other asset has negative
return
b. When the return on one asset is above its expected value, the return
on the other asset tends to be below its expected value
c. The returns on the assets are independent

21. What is the expected value of a portfolio with 63% invested in Fund A and
the balance in Fund B?

a. 12.60
b. 12.00
c. 12.78

22. What is the correlation between A and B?

a. 0.54
b. 0.34
c. 0.36

23. What is the portfolio standard deviation of return?

a. 15.94
b. 254.02
c. 166.37

24. If the correlation between A and B were zero, what would be the portfolio
Standard deviation of return?

a. 166.37
b. 12.90
c. 18.20

25. Which method would you use to calculate probabilities given new
information?

a. Bayes theorem
b. Total Probability Rule
c. Probability Dependency Rule

26. The formula to the answer in 25 above is given by which formula (refer to
the numbered formulas preceding the questions).

a. 3
b. 7
c. 15

27. If stocks have positive returns 75% of the time, bonds have positive returns
80% of the time, and both have positive returns 65% of the time, what is the
probability that at least one of the two asset classes is positive?

a. 60%
b. 75%
c. 90%

28. If the probability that a change in EPS is positive in the next quarter is 60%,
the probability that the change in EPS is positive in the prior quarter is 60%,
and the probability that the change is positive in the next quarter given
positive change in the prior quarter is 80%, what is the probability of
positive change for the next quarter, given a zero or negative change in the
prior quarter.

a. 30%
b. 20%
c. 40%

29. How many ways can 5 analysts be assigned to each monitor one of 5 different
investment managers?

a. 25
b. 15
c. 120

30. Which allocation is optimal when the minimum acceptable return is 3.3%?
Allocation A with E(R) = 11.4% and s.d. of 19%, Allocation 2 with E(R) =
10.4% with s.d = 12%, or Allocation C with E(R) = 14% and s.d. = 26%?

a. 1
b. 2
c. 3

31. If 60% of portfolio managers who had performance that ranked in the top
50% of all managers for the first year also ranked in the top 50% for the
second year, what is the probability that a manager was in the top 50% for
both years?

a. 25%
b. 30%
c. 50%

32. Insider trading is widely believed to be far more prevalent that the number
of cases discovered. In arriving at a probability of insider trading occurring,
what type of probability would be most suitable?

a. Empirical probability
b. Subjective probability
c. A prior probability

33. Given 3 possible scenarios under which an election may be held (economic
expansion, economic recession, zero economic growth) and 4 political parties
(Radical Right, Realistic Right, Realistic but slightly less so Left, and Tree
Hugging Kumbaya Left), which formula would you use to determine the
probability that the country is going to hell in a hand basket with the far right
party?

a. 5
b. 7
c. 15

34. To determine how many ways we can select 4 stocks for possible pairs trades
from a screen of 15, we would use formula:

a. 1
b. 16
c. 17

35. To determine the probability of EPS > expectations due to aggressive
accounting having been used, we would use which formula?

a. 3
b. 5
c. 6

36. In estimating the expected return on an investment in a portfolio of
investment properties with average lease lives less than 3 years under
several economic scenarios, the formula would we use to measure the risk of
that expected return would be #________________.

37. To assess a stock for inclusion in a portfolio, estimating its impact on total
portfolio risk would require us to use Formula #_________________.

38. A company’s earnings can take on several values depending on economic
conditions. To determine the probability that we are in an economic
recession given that earnings missed expectations, we would use
Formula#______________.

39. To better communicate your assessment of the co-movement of 2 stock’s
return, you express that relationship as a value between -1 and 1 using
Formula #________________.

40. To determine the joint probability of two independent events we would use
Formula #_________________.

Answers

1. C is correct. A probability is M/N, where M is the number of occurrences and
N is the population size

2. B is correct. Think of it in terms of a Venn diagram. If A and B are mutually
exclusive, there will be not overlap between them. Thus the probability of
either occurring is just the sum of each individual probability.

3. A is correct. An empirical probability is an event expressed as a relative
frequency of occurrence based on historical data.

4. A is Correct. The odds for E are the probability of E divided by 1 minus the
probability of E.

5. B is correct. The odds against are b/(b+a) = 16/17 = 94.11%. Thus the odds
of BKS surviving more than 5 years is 5.89%

6. B is correct. Using formula 1, P(E) = 0.91, 1 – P(E) = .09. >91/.09 = 10.
Hence, 10:1

7. A is correct. P(A|B) is the notation for conditional probability.

8. B is Correct. Given events A and B, the probability that A or B occurs, or both
occur, is equal to the probability that A occurs, plus the probability that B
occurs, minus the probability that both A and B occur.

9. B is correct.

10. A is correct. .3 * .1 * .4 = .012 or 1.2%

11. A is correct. 75% rates go up, 25% rates go down. If rates go up, 70% that
EPS = 6 and 30% that EPS = 4. If rates go down, 60% that EPS = 10, 40% EPS
= 8. Thus, 0.75[(.7*6) + (.3*4)] + 0.25[(.6*10) + (.4*8)] = $6.35.

12. C is correct. When the scenarios (conditioning events) are mutually
exclusive and exhaustive, no possible outcomes are left out. We can then
analyze the event using the total probability rule. This rule explains the
unconditional probability of the event in terms of probabilities conditional
on the scenarios.

13. A is correct. P(Correction) = .65, P(No Correction) = 0.35. P(20% Drop |
Correction) = .80, P(20% Drop | No Correction) = .08. P(20% Drop) =
(.65*.8)+(.35*.08) = 54.8%

14. B is correct. The expected value of a random variable is the probability-

weighted average of the possible outcomes of the random variable. For a
random variable X, the expected value of X is denoted E(X).

15. A is Correct. (.2*550) + (.34*575) + (.18*650) + (.28*450) = 548.5

16. C is correct. (.20)(550 - 548.5)2 + (.34)(575 - 548.5)2 + (.18)(650 - 548.5)2 +
(.28)(450 - 548.5)2 = 4,810.25.

17. B is correct. When two events are independent, the joint probability of A and
B equals the product of the individual probabilities of A and B.

18. C is Correct. Sometimes we know the conditional probability P(A | B) and we
want to know the joint probability P(AB). We can obtain the joint probability
from the multiplication rule for probabilities, which is Equation 3
rearranged. Thus both 3 and 4 express the multiplication rule for non-
independent events. C is the Addition Rule.

19. A is correct. The fund has $70K + $70K - $40K = $100K invested. Weights
are 70% on stock A, 70% on stock B, and -40% on stock C. RP = (.7 * -.02) +
(.7 * .043) +(-.4 * -.033) = -1.4% + 30.1% + 1.32% = 2.93%

20. B is correct. Covariance of returns is negative if, when the return on one
asset is above its expected value, the return on the other asset tends to be
below its expected value (an average inverse relationship between returns).
Covariance of returns is positive when the returns on both assets tend to be
on the same side (above or below) their expected values at the same time (an
average positive relationship between returns).

21. C is correct. (.63 * 0.15) + (.37 * 0.09) = .1278

22. A is correct. CORR(AB) = 188/[(255^.5)(476^.5)] = .5396

23. A is Correct. (.63)2(255) + (.37)2(476) +2 (.63)(.37)(188) = 254.0195.
Taking the square root for standard deviation yields 15.94%.

24. B is correct. (.63)2(255) + (.37)2(476) +2 (.63)(.37)(0) = 166.3739. Taking
the square root for standard deviation yields 12.90%.

25. A is Correct. Bayes' formula uses the occurrence of the event to infer the
probability of the scenario generating it.

26. C is correct.

27. C is correct. P(A or B) = P(A) + P(B) – P(AB) = .75 + .80 - .65 = .90

28. A is correct.

29. C is correct. 5! = 120. There are 5 ways to assign the first analyst. Once
assigned, there are only 4 investment managers left to cover, so there are 4
ways to assign an analyst. And so on.

30. B is Correct. The ratio (E(R) – Min R)/s.d. = (.104 - .033)/.12 = .5917
produces the highest value. Allocation 1 = .4283 and Allocation 2 = .4115.

31. B is Correct. To see the logic, assume 100 managers. The top 50% will
include 50 managers, by definition. If only 60% of these go on to be in the
top 50% next year, only 30 managers will make it. (60% of the 50).

32. B is correct. Empirically, the number of cases is believed to be fewer than the
number of occurrences, so an empirical probability would understate
occurrences. A priori probabilities are arrived at deductively, and as such
suffers from the same problem that empirical probability does – namely lack
of observability. Subjective probabilities are used when there is a lack of
empirical observations.

33. B is correct. We would use the total probability rule.

34. B is correct. We are selecting 4 items from 15 in which order does not
matter. Combination Formula (Binomial Formula): the number of ways that
we can choose r objects from a total of n objects, when the order in which the
r objects are listed does not matter.

35. A is correct. This is a conditional probability. P(aggressive accounting |
EPS>expectations). We would not use Formula 6 for joint probability since
the two events are not independent. Although it is not stated explicitly in the
question, it is clear to see that P(EPS>expectations) would be different under
aggressive accounting versus conservative accounting.

36. 9 is Correct. The variance of a random variable is the expected value (the
probability-weighted average) of squared deviations from the random
variable's expected value. Formula 9 is the expanded version of the formula
below.

37. 12 is Correct. Diversification benefits increases with decreasing covariance.

38. 15 is correct. We are told that EPS will depend on economic conditions,
which is a conditional probability problem – P(EPS>expectations | economic
condition 1), etc. We are then asked to determine the economic condition if
we already know that EPS < expectations. That requires Bayes formula.

39. 14 is correct. Correlation is a number between −1 and +1 for two random
variables, X and Y.

40. 6 is Correct. The joint probability of two independent events is the product
of their independent probabilities.

Common Probability Distributions

1. A company’s sales are an example of a:

a. Continuous random variable
b. Discrete random variable
c. A uniform random variable

2. A company’s current ratio is an example of a:

a. Continuous random variable
b. Discrete random variable
c. Binomial random variable

3. p(x) = P(X = x) denotes:

a. That x is a discrete random variable
b. That x is a continuous random variable
c. That x can be either a continuous or a discrete random variable

From the table below answer Q4 – Q6

4. What is the probability of X ≤ 4.

a. 21%
b. 88%
c. 12%

5. What is the probability of X = 2 or X = 5?

a. 60%
b. 7%
c. 11%

6. What is the probability of 2 < X ≤ 5

a. 49%
b. 60%
c. 56%

7. A Bernoulli random variable:

a. Is distributed ~ (n,p)
b. Can take on two values, 0 for failure and 1 for success
c. Is the number of successes in n trials

8. What value for success must a Bernoulli random variable assume in order to
produce a Binomial random variable with a symmetric distribution?

a. 50%
b. 68.3%
c. 90%

9. A Bernoulli random variable has p = .75. In 7 trials, we observe 5 successes.
What is the probability of such an outcome?

a. 31.1%
b. 1.5%
c. 18.9%

10. For a binomial random variable to take on a distinct sharp right skew, the
Bernoulli variable p would most likely have a value of:

a. .5
b. .9
c. .1

11. You run a used car lot that regularly buys used vehicles from several auction
dealers. Typically, 60% of used vehicles bought from auction require no
repair and can be sold for normal profit margin. The rest require some
repair that results in either a break-even or small loss. Buying from auction
dealers has a risk since you are relying on their ability to select the good ones
from the bad ones. It may also be the case that some auction dealers send
their cars to a preferred customer first, and all rejects then get sent to you.
To assess whether you are being treated fairly you decide to audit three
auction dealers on their past sales to you dealership. Below are the results of
your analysis.

Which dealer requires closer look?

a. A1
b. A2
c. A3

12. With reference to Q11 above, for the dealer you selected, what would be the
probability of seeing their number of good cars delivered if in fact the auction
dealer was treating you fairly.

a. 17%
b. 15%
c. 13%

13. With respect to Q11, what would the expected mean and standard deviation
be for A1?

a. Mean of 7.2, variance of 1.7
b. Mean of 8 and variance of 1.9
c. Mean of 6 and variance of 2

14. Y is a continuous uniformly distributed random variable with value between
13 and 96. What is P(33 ≤ Y ≤ 49)?

a. 16%
b. 19%
c. 20%

15. Calculate the mean and standard deviation of the distribution is Q 14 above.

a. 41 and 4.6
b. 19 and 4
c. 54.5 and 24

16. With reference to the distribution in Q14, what is (X = 50)?

a. 0%
b. 1.2%
c. 45%

17. 95% of the observations under the normal probability curve lie within
_____________ standard deviations of the mean.

a. 2.58
b. 2.33
c. 1.96

18. The normal probability distribution has mean = mode = median due to:

a. Skew = 0 and kurtosis = 0
b. Skew = 3 and kurtosis = 0
c. Skew = 0 and kurtosis = 3

19. What are formulas 7 and 8 doing?

a. Normalizing X
b. Standardizing X
c. Calculating a Confidence Interval

20. The Z value corresponding to 5% remaining in the right tail is:

a. 1.28
b. 1.65
c. 2.33

21. Which Formula would you use to assess the risk that the assets in a defined
benefit plan will fall below plan liabilities?

a. 3
b. 7
c. 9

22. I deciding among 3 portfolios, you are guided by two objectives. First is
return of capital; you do not want a negative return. The second is income.
Which of the 3 portfolios attempt to satisfy your first condition best.

a. A
b. B
c. C

23. Asset prices tend to distributed:

a. Uniformly
b. Normally
c. Lognormal

24. Asset returns tend to be distributed:

a. Uniformly
b. Normally
c. Lognormal

25. A lognormal distribution is defined in terms of two parameters. They are:

a. The mean and standard deviation of its associated normal distribution
b. The mean and standard deviation of its own distribution
c. The mean and variance of its own distribution

26. A stock price at time t = $45 and at t+1 = $51. What is the continuously
compounded rate of return over that holding period?

a. 13.33%
b. 12.52%
c. 11.76%

27. A stock price at time t = $45 and at t+1 = $36 during which time we received
a dividend of $2. What is the continuously compounded rate of change of the
asset price over that period of time?

a. -16.91%
b. -20.00%
c. -22.31%

28. If an asset’s continuously compounded return is normally distributed, the:

a. The asset’s future prices must also be normally distributed
b. The asset’s future prices will be continuously distributed
c. The asset’s future prices must be lognormally distributed

29. Assuming that a particular asset’s returns are normally distributed, which
statement best describes the future price of such an asset?

a. St = P1X1 + P2X2 + … + PnXn
b. ST= SoerT
c. ST = So(i+r)t

30. Volatility measures:

a. The standard deviation of daily returns of an asset
b. The variance of daily returns multiplied by 𝑇
c. The standard deviation of the continuously compounded returns

Answers

1. B is correct. Although there are an unlimited number of possible outcomes
for sales, to the penny, they are theoretically countable. Sales can be $99.97
or $99.98, but not 99.974, or 99.9744, or 97.4444, etc. Thus A is incorrect on
that basis. C is incorrect since uniformity describes a distribution of
outcomes and not a variable. Both discrete and continuous variables can be
uniformly distributed.

2. A is correct. A ratio can take on any value. There are an uncountable number
of possible values, since for any values z1 and z2, the outcome (z1 + z2)/2
would always be possible.

3. A is correct. The probability function for a continuous random variable has
the notation f(x) as opposed to p(x).

4. B is correct. p(0) + p(1) + p(2) + p(3) + p(4) = .21 + .14 + .04 + .28 + .21 =
0.88

5. C is correct. p(2) + p(5) = .04 + 0.7 = .11

6. C is Correct. p(3) + p(4) + p(5) = .28 + .21 + .07 = .56

7. B is correct. Both A and B describe a binomial random variable. A binomial
random variable X is defined as the number of successes in n Bernoulli trials.

8. A is correct. Some distributions are always symmetric, such as the normal,
and others are always asymmetric or skewed, such as the lognormal. The
binomial distribution is symmetric when the probability of success on a trial
is 0.50, but it is asymmetric or skewed otherwise.

9. A is Correct. Using Formula 2, n = 7, x = 5, p = 0.75, (1 – p) = 0.25.

10. C is correct. The lower the value of p, the more right skewed the distribution
of the resulting Binomial random variable. The higher the value of p, the
more left skewed the distribution.

11. B is Correct. A1 delivers good cars 66% of the time, and A3 deliver good cars
57% of time. A2 delivers good cars only 33% of the time.

12. A is correct.

13. A is correct. The expected mean is np. Here we are using the expected value
of p = 0.60 and n=12, the number of transactions from A1. Thus mean = np =
12*.6 = 7.2. Variance = np(1-p) = 7.2(.4) = 2.88. Standard deviation = (2.88).5
= 1.7.

14. B is correct. (49-33)/((96-13) = 16/83 = 19.3%

15. C is correct. Using formulas 4 and 5, b = 96 and a = 13, μ = 54.5 and σ = 24.

16. A is correct. The probability of a continuous random variable equalling any
fixed point is 0.

17. C is correct. Intervals are μ ± 1.96σ for 95 percent of the observations and
μ ± 2.58σ for 99 percent of the observations.

18. A is correct. The normal distribution has a skewness of 0 (it is symmetric).
The normal distribution has a kurtosis (measure of peakedness) of 3; its
excess kurtosis (kurtosis − 3.0) equals 0. As a consequence of symmetry, the
mean, median, and the mode are all equal for a normal random variable.

19. B is correct. We standardize using the formula Z = (X – μ)/σ.

20. B is correct. The 95th percentile point is 1.65: P(Z ≤ 1.65) = N(1.65) = 0.95
or 95 percent, and 5 percent of values remain in the right tail. Note the
difference between the use of a percentile point when dealing with one tail
rather than two tails. Earlier, we used 1.65 standard deviations for the 90
percent confidence interval, where 5 percent of values lie outside that
interval on each of the two sides. Here we use 1.65 because we are concerned
with the 5 percent of values that lie only on one side, the right tail.

21. C is correct. Roy’s safety-first criterion states that the optimal portfolio
minimizes the probability that portfolio return, RP, falls below the threshold
level, RL.

22. C is correct. Using Formula 9, select the Portfolio that offers the highest
value for SFRatio. That is Portfolio C with 0.4429.

23. C is correct. Since asset prices are bounded below by zero, the lognormal
distribution is widely used for modeling the probability distribution of share
and other asset prices.

24. B is Correct. Returns on a quarterly or annual basis approximate a normal
distribution. Further, returns can take on both positive and negative values.
In practice, the lognormal distribution has been found to be a usefully
accurate description of the distribution of prices for many financial assets. On
the other hand, the normal distribution is often a good approximation for
returns.

25. A is Correct. Unlike the other distributions we have considered, a lognormal
distribution is defined in terms of the parameters of a different distribution.
The two parameters of a lognormal distribution are the mean and standard
deviation (or variance) of its associated normal distribution: the mean and
variance of ln Y, given that Y is lognormal.

26. B is correct. Using Formula 10, St+1 = 51 and St = 45: ln(51/45) = .125163.

27. C is correct. Using Formula 10, St+1 = 45 and St = 36: ln(36/45) = -.22314.
Note: The question asks for the rate of change in the asset price, not the rate
of return.

28. C is Correct. If a stock’s continuously compounded return is normally
distributed, then future stock price is necessarily lognormally distributed.

29. B is correct. Since asset returns are normally distributed, asset prices are
lognormally distributed. B is the function for a lognormally distributed asset
price.

30. C is correct. Volatility measures the standard deviation of the continuously
compounded returns on the underlying asset. In practice, we very often
estimate volatility using a historical series of continuously compounded daily
returns. We gather a set of daily holding period returns and then convert
them into continuously compounded daily returns. We then compute the
standard deviation of the continuously compounded daily returns and
annualize that number.

Sampling and Estimation

1. Consumer Confidence, a macroeconomic variable, is typically arrived at
through a phone survey. The value of consumer sentiment is a:
a. Statistic
b. Parameter
c. Sample

2. The mean score on a class’s mid-term is a:
a. Statistic
b. Parameter
c. Neither a statistic nor a parameter

3. A subset of a larger population created in such a way that each element of the
population has an equal probability of being selected does not refer to:
a. Systematic sample
b. Simple random sample
c. Stratified sample

4. The difference between the observed value of a statistic and the quantity it is
intended to estimate is:
a. The standard error
b. The sampling error
c. The standard deviation

5. A sampling distribution refers to:
a. The distribution of the population from which the sample was drawn
b. The distribution of the sample statistic when computed from samples
of the same size drawn from the population
c. The type of sampling performed on the population

6. Formula 2 is called:
a. The standard deviation of the sample
b. The point estimate of standard deviation of the population
c. The standard error of the sample mean

7. We took a sample of size 34 from a population with a know variance of 388
and arrived at a sample mean of 34. Calculate the standard error.
a. 11.4
b. 0.6
c. 3.4

8. In Q7 above, assume the population variance was unknown and we

calculated the sample standard deviation to be 21.06. Calculate the standard
error.
a. 3.6
b. 0.80
c. 21.06

9. We take a sample of size 300 of a population of 300. What is the standard
error associated with our estimate of the population mean?
a. 1
b. 0
c. 17.3

10. We take an element at random from a population of 300 with a known
variance of 100. What would be the standard error associated with using the
value of the random element as the estimate of the population mean?
a. 10
b. 100
c. 17.3

11. Which is not a desirable property of an estimator?
a. Unbiasedness
b. Efficiency
c. Relevance

12. If no other unbiased estimator of the same parameter has a sampling
distribution with smaller variance, we say the estimator is:
a. Unbiased
b. Consistent
c. Efficient

13. We take two samples from a population, one of size 30 and one of size 100.
Each sample has a slightly different mean and slightly different variance, but
both result in the same standard error. Our estimator clearly lacks:
a. Unbiasedness
b. Efficiency
c. Consistency

14. Confidence intervals should not be interpreted to mean:
a. In repeated sampling, a stated percent of such confidence intervals
will, in the long run, include or bracket the population mean
b. We can assert that we are a confident to some percentage that a single
confidence interval contains the population mean
c. The true population mean is within some percent of the sample mean

15. To construct a 95% CI around a sample mean drawn from a population that
is normally distributed, our reliability factor would be:
a. 1.65
b. 1.96
c. 2.58

16. A sample of size 50 that was drawn at random from a normally distributed
population results in a mean of 102 and a variance 225. What is the 99% CI
in which the true mean of the population would lie?
a. 96.5 to 107.5
b. 19.9 to 184.1
c. 97.1 to 106.9

17. Which statement is not true about confidence intervals?
a. A confidence interval is an interval of values computed from sample
data that is likely to include the true population value
b. An approximate formula for a 95% confidence interval is sample
estimate ± margin of error
c. A 99% confidence interval procedure has a higher probability of
producing intervals that will include the population parameter than a
95% confidence interval procedure

18. Which statement is not true about the 95% confidence level?
a. Confidence intervals computed by using the same procedure will
include the true population value for 95% of all possible random
samples taken from the population.
b. The procedure that is used to determine the confidence interval will
provide an interval that includes the population parameter with
probability of 0.95
c. The probability that the true value of the population parameter falls
between the bounds of an already computed confidence interval is
roughly 95%

19. If the mean income of companies on a given stock exchange is $2M with a
standard deviation of $3M, which is closest to the standard error of the
sample mean for a sample size of 25?
a. $0.4M
b. $05.M
c. $0.6M

20. If the mean income of companies on a given exchange is $60M with a
standard deviation of $100M, which is closest to the 95% CI for the sample
mean for a sample of 100?
a. $30M to $90M
b. $40Mto $80M
c. $50M to $70M
21. How many degrees of freedom does a t-distribution have for a sample size of
25?
a. 25
b. 24
c. 5

22. Which statistic is appropriate for sampling from a normal distribution with
an unknown variance for a large sample size?
a. t-statistic or z-statistic
b. t-statistic only
c. z-statistic only

23. A 95% CI for actively managed mutual fund returns in excess of their
benchmark rate spans -4.5% to 6.2%. Can we say that actively managed
mutual funds deliver excess return?
a. Yes since the mid-point of the interval is 0.85%
b. Yes, since returns do include positive excess return up 6.2%
c. No since the interval contains the true population mean and the
interval contains zero

24. The t-distribution is a symmetrical probability distribution defined by:
a. 2 parameters, a mean and variance
b. 1 parameter – degrees of freedom
c. 3 parameters, a mean, a variance, and degrees of freedom

25. Which statistic is appropriate for sampling from a normal distribution with
an unknown variance for a small sample size?
a. t-statistic or z-statistic
b. t-statistic only
c. z-statistic only

26. What choice will decrease the size of the confidence interval for a given level
of confidence?
a. Use of a t-statistic
b. A large sample
c. A higher level of α

27. Which would not be a disadvantage of increasing sample size to obtain
tighter confidence intervals?
a. The cost may outweigh the benefit
b. We run the risk of sampling from 2 different populations
c. The standard error will decrease resulting in smaller, less accurate
intervals

28. Ralph has spent a considerable amount of time analyzing market data for
relationship among variables. Ralph has developed several trading strategies
based on such relationships that were significant in the data set. Once put to
the test however, Ralph has failed to generate any returns based on these
strategies. Ralph has most likely committed:
a. Sample Selection Bias
b. Look-Ahead Bias
c. Data Mining Bias

29. Many academic papers that are published contain findings and results that
have been difficult to replicate across markets and in different time periods.
Such findings most likely suffer from which bias:
a. Sample selection bias
b. Look-ahead bias
c. Time-period bias

30.

Answers

1. A is correct. Since the entire population cannot be surveyed each month,
samples are usually drawn from the population. The resulting measure
represents a statistic. A parameter refers to a population.

2. B is correct. The class makes up the population of all those who wrote the
mid-term

3. C is correct. A simple random sample gives each element an equal
probability of being selected. Both A and B do this.

4. B is Correct. The sample mean will provide the analyst with an estimate of
the population mean. Any difference between the sample mean and the
population mean is called sampling error.

5. B is correct. A sample statistic is a random variable. In other words, not only
do the original data from the population have a distribution but so does the
sample statistic. This distribution is the statistic’s sampling distribution.

6. C is correct. For sample mean 𝑋 calculated from a sample generated by a
population with standard deviation σ, the standard error of the sample mean
is given by one of two expressions, Formula 1 when we know σ, the
population standard deviation, or by Formula 2 when we do not know the
population standard deviation and need to use the sample standard
deviation, s, to estimate it.

7. C is correct. Using formula 1, σ = 388, n = 34, SE = 19.6977/5.83 = 3.378.

8. A is Correct. Using Formula 2, s = 21.06, n = 34, SE = 3.605.

9. B is correct. Our sample is the population; as such there is no sampling error
in using the sample mean as the estimate of the population mean.

10. A is correct. Using Formula 1, σ2 = 100, n = 1, SE = 10/1.5 = 10. Note that the
population standard deviation is also 10 (square root of 100). Since an
element taken at random is just a sample of 1, the standard deviation
associated with its value being as estimate of the population mean is really
just the standard deviation of the population.

11. C is correct. Desirable properties of estimators are unbiasedness, efficiency,
and consistency.

12. C is Correct. Definition of Efficiency. An unbiased estimator is efficient if no
other unbiased estimator of the same parameter has a sampling distribution
with smaller variance.

13. C is correct. A consistent estimator is one for which the probability of
estimates close to the value of the population parameter increases as sample
size increases. With a larger n, we should expect to see a much smaller
standard error.

14. C is correct. The true population mean is within some ‘interval’ around the
mean a certain percentage of the time, not within some ‘percent’.

15. B is correct. 95 percent confidence intervals: Use z0.025 = 1.96.

16. A is correct. Using formula 5, zα/2 = 2.58, s = 15. 102 +/- 2.58(15/ 50 ) =
102 +/- 5.473. So, 96.5 to 107.5.

17. B is Correct. A confidence interval is constructed as follows: Point estimate ±
Reliability factor × Standard error.

18. C is correct. Each sample drawn with have slightly different mean and
variance, so a 95% CI must be calculated for each sample. We cannot use a CI
from another sample.

19. C is correct. Using Formula 2, s = 3M and n = 25. SE = 3/ 25 = 0.6.

20. B is correct. Using Formula 5, zα/2 = 1.96, s = $100M, n = 100. 60 +/-
1.96(100/ 100 ) = 60 +/- 19.6. So $40M to $80M.

21. B is correct. df = n – 1 = 25 – 1 = 24.

22. A is correct. For confidence intervals based on samples from normally

distributed populations with unknown variance, the theoretically correct
reliability factor is based on the t-distribution. However, the use of z is also
acceptable.

23. 23. C is correct. Since the confidence interval contains the true population
mean and it also contains zero, we cannot say that the true population means
in not zero.

24. B is correct. The t-distribution is a symmetrical probability distribution
defined by a single parameter known as degrees of freedom (df). Each value
for the number of degrees of freedom defines one distribution in this family
of distributions.

25. B is correct.

26. B is correct. A larger sample will result in a smaller SE. Both A and B will
result in a larger reliability factor.

27. C is correct. A larger sample will decrease the SE, but this will not result in
less accurate intervals

28. C is correct. Data-mining is the practice of determining a model by extensive
searching through a dataset for statistically significant patterns. Investment
strategies that reflect data-mining biases are often not successful in the
future.

29. C is correct. A test design is subject to time-period bias if it is based on a time
period that may make the results time-period specific.

Hypothesis Testing

1. The pair of hypothesis statements denoted by B on the page preceding the
questions is a:

a. Two-tailed test
b. Left-tailed test
c. Right-tailed test

2. Which statement is false?

a. The alternative hypothesis is the one being tested
b. The first step in hypothesis testing is to actually state the hypotheses
c. The null hypothesis is considered true unless the sample we use can
provide evidence that it is false

3. H0: 𝑋 < µ0 vs. Ha: 𝑋 > µ0. Is this a complete hypothesis statement?

a. Yes, both a null and an alternative are stated
b. No since the formulation leave out the possibility of equality
c. No since the null and the alternative are labelled wrong, the null
should test the > condition

4. Which is a Type 1 error?

a. Reject a false null
b. Fail to reject a true null
c. Reject a true null

5. If we reject a null hypothesis, we risk making:

a. A type 1 error only
b. A type 2 error only
c. Either a type 1 or a type 2 error

6. The most effective way to reduce either Type 1 or Type 2 errors is to:

a. Decrease α
b. Decrease β
c. Increase n

7. The power of a test is not:

a. 1 – β
b. The probability of incorrectly rejecting the null
c. The probability of correctly rejecting the null

Case 1 Case 2 Case 3
H0: 𝑋 = µ0 H0: 𝑋 ≤ µ0 H0: 𝑋 ≥ µ0
Ha: 𝑋 ≠ µ0 Ha: 𝑋 > µ0 Ha: 𝑋 < µ0
α = 5% α = 5% α = 1%
𝑋 = 62 𝑋 = 16.9 𝑋 = 79
μ0 = 55 μ0 = 12.8 μ0 = 92
s = 31 s = 16 s = 66
n = 32 n = 42 n = 50

8. Case 1 critical value and decision rule are:

a. +/- 1.96 and do not reject
b. +/- 1.645 and do not reject
c. +/- 1.96 and reject


a. -1.645 and reject
b. 2.33 and do not reject and reject
c. 1.645 and reject


a. 2.33 and do not reject
b. -2.33 and do not reject
c. -2.33 and reject

11. For a left-tailed test, the decision rule for rejection can be stated as:

a. Test statistic > critical value
b. Test statistic < critical value
c. |test statistic| < |critical value|

12. You wish to test if a sample mean of 1.3% is different from zero. You do not
have the sample standard deviation or the sample size available but you
observe that your colleague has previously computed a 95% CI of -0.04 to
2.34%. Can you reject the null hypothesis of H0: 𝑋 = 0 at an α of 5%?

a. Yes
b. No
c. Not without knowing the standard error

13. Your son spilled his Shamrock shake he got from McDonald’s on your work
you left on the kitchen table after your wife told you this was going to
happen. So this is all your fault and she is going to let you know so you better
just keep quiet about it. Anyway, you are now missing some critical values.
You had a sample mean of 45 you wanted to test against a hypothesized
value of 40, specifically, your null was H0: 𝑋 ≤ 40. You can’t read the
standard deviation value or the sample size, but you do see the 90% CI of 41
to 49. The problem is you need to test the null at 95%. Can you reject the
null? Lives are at stake!

a. No
b. Yes
c. Can’t be done without the SE

14. If I have a p-value of 0.0452, can I reject the null hypothesis at 95%
significance?

a. Yes, 0.0452 < 0.05
b. No, 0.0452 < 0.05, it would need to be large than 0.05
c. No, since α/2 = 0.025 which is smaller than the p-value

15. What will be the difference in the test statistic for Case 2 given above?

a. The t-statistic will be higher than the z-statistic
b. The t-statistic will be lower than the z-statistic
c. The t-statistic will not change

16. When testing differences between means, when would we not use Formula
#4 given on the pages preceding the questions?

a. When the samples are from populations at least approximately
normally distributed and the samples are also dependent
b. When the population variance of two samples is unknown but can be
assumed to be equal and the samples are independent of each other
c. When the population variance of two samples is unknown and cannot
be assumed to be equal and the samples are independent of each
other

17. What is the test statistic for a) the variance of a single, normally distributed
population and b) the difference between the variances of two normally
distributed populations based on two random, independent samples.

a. T-test and chi-square test
b. Chi-square test and F-test
c. F-test and chi-square test

18. We would use a paired comparisons test to:

a. Test the difference between two variances from dependent samples
b. Test the differences from two means from independent samples
c. Test the difference between two means from dependent samples

19. In testing the difference between two means from a dependent sample, our
test statistic would be derived by formula:

a. 6
b. 7
c. 8

20. You are using Formula 7 to generate a test statistic. You used two samples
each of size 33 to generate the d-statistic. What df will you use to find the
critical value under the condition that the variances of the two samples are
the same?

a. 64
b. 32
c. A value based on Formula 5

21. Given that the chi-square distribution is bounded below by zero and cannot
take on negative values, which is a false statement?

a. Chi-square tests are right-tailed tests
b. A different chi-square distribution exists for every possible value of df
c. The Chi-Square distribution is asymmetrical

Hypotheses Set A Hypotheses Set B

22. Which set of hypotheses will require an F-test?

a. Set A
b. Set B
c. Both require a F-Test since both are comparing two variances

23. In conducting an F-Test, s21 has a value of 166 and s22 has a value of 325.
What F-Statistic would be calculated and what Formula would you use for
the formula sheet preceding the questions?

a. 0.51 and Formula 9
b. 1.96 and Formula 9
c. 0.51 and Formula 8

24. When data are given in ranks, we would use:

a. T tests
b. Non parametric tests
c. Ranked data cannot be statistically tested

Answers

1. C is correct. We are testing whether θ > θ0. Thus θ must lie in the right tail
for the null to be rejected.

2. A is correct. The null hypothesis is the hypothesis to be tested.

3. B is correct. The null is always tested at the point of equality.

4. C is correct. We reject a true null hypothesis. This is called a Type I error.

5. A is correct. When we make a decision in a hypothesis test, we run the risk of
making either a Type I or a Type II error. These are mutually exclusive
errors: If we mistakenly reject the null, we can only be making a Type I error;
if we mistakenly fail to reject the null, we can only be making a Type II error.

6. C is Correct. Controlling the probabilities of the two types of errors involves
a trade-off. All else equal, if we decrease the probability of a Type I error by
specifying a smaller significance level (say 0.01 rather than 0.05), we
increase the probability of making a Type II error because we will reject the
null less frequently, including when it is false. The only way to reduce the
probabilities of both types of errors simultaneously is to increase the sample
size, n.

7. B is correct. Whereas the significance level of a test is the probability of

incorrectly rejecting the null, the power of a test is the probability of
correctly rejecting the null—that is, the probability of rejecting the null when
it is false.

8. A is correct. This is a two-tailed test with α = 0.5. The critical value for 95%,
two-tailed is +/- 1.96. The test statistic is (62 – 55)/(31/ 32 )= 1.277. Since
test statistic < critical value, do not reject.

9. C is correct. This is a right tailed test since the alternative has a greater than
sign. α is 0.05 so the 95% right tailed critical value is 1.645. The test statistic
is (16.9 – 12.8)/(16/ 42 ) = 1.66. Since test statistic > critical value, reject
the null.

10. B is correct. This is a left-tailed test since the alternative has a less than sign.
α = 0.01 so the 99% left tailed critical value is -2.33. The test statistic is (79 –
92)/(55/ 50) = -1.393. Since test statistic > critical value, do not reject the
null.

11. B is correct. A left-tailed test will have a negative critical value. For rejection
the test statistic must be more negative, hence less than the critical value.

12. A is correct. Since the 95% CI contains zero, a test would fail to reject the
null hypothesis.

13. B is correct. A 90% CI leaves 5% in each tail. Since this is a one-tailed test, a
two-tailed 90% test of rejection would be equivalent to a one-tailed 95% test
of rejection. Since the CI does not contain the value 40, we can reject the null.
And don’t even think you can clean up the mess without your wife finding
out. Your son is bawling his eyes out so its pretty much over. May as well
own it.

14. A is correct. The p-value is the smallest level of significance at which the null
hypothesis can be rejected.

15. C is correct. The test statistic is calculated in the same way as Formula 1 and
2 show. It is the critical value that will be different.

16. A is correct. The t-statistic will be the same whether we assume the
variances are equal or not. What changes are the degrees of freedom.
However, we do need independent samples.

17. B is correct. A test of a single variance is a chi-square test. A test of two chi-
square variables is an F-test.

18. C is correct. When we want to conduct tests on two means based on samples
that we believe are dependent, a paired comparisons test is performed.

19. C is correct. When we have data consisting of paired observations from
samples generated by normally distributed populations with unknown
variances, we conduct a t-test is based on Formula 7.

20. B is correct. We would use n − 1 degrees of freedom, where n is the number
of paired observations. Since there are 33 observations from each sample,
and this is a test of differences, we have 33 paired observations, so df = 32.

21. A is correct. Chi-square tests can be two-tailed, left-tailed and right-tailed.

22. B is correct. Set A is comparing a variance with a hypothesized value. Set
two is comparing σ21 with σ22.

23. B is correct. A convention, or usual practice, is to use the larger of the two
ratios s21/s22 or s22/s21 as the actual test statistic. When we follow this
convention, the value of the test statistic is always greater than or equal to 1.

24. B is correct. We primarily use nonparametric procedures in three situations:
when the data we use do not meet distributional assumptions, when the data
are given in ranks, or when the hypothesis we are addressing does not
concern a parameter.

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Time Value of Money

2. How is an annuity due defined?

3. An annuity stream where the payments occur forever is called a(n):

c. Option B has a higher present value than option A.

8. How does a perpetuity differ from an annuity?

a. perpetuity payments vary with the rate of inflation

Multiple Choice Questions

2. How is an annuity due defined?

3. An annuity stream where the payments occur forever is called a(n):

c. Option B has a higher present value than option A.

8. How does a perpetuity differ from an annuity?

a. perpetuity payments vary with the rate of inflation

Difference = $122,410.88 $112,303.56 = $10,107.32

Difference = $25,202.28 $25,056.12 = $146.16

Difference = $135,352.94 $126,498.08 = $8,854.86

Total interest = ($1,355.262871 25 12) $187,500 = $219,079

Amount financed = $4,800,000 (1 .25) = $3,600,000

Amount financed = $4,950 $750 = $4,200

13. The following graph is not a:

39. For the results of Chebyshev’s inequality to be valid:

7. Which formula will calculate a conditional probability?

13. The probability of a significant housing correction in major Canadian

23. What is the portfolio standard deviation of return?

14. B is correct. The expected value of a random variable is the probability-

Common Probability Distributions

6. What is the probability of 2 < X ≤ 5

23. Asset prices tend to distributed:

30. Volatility measures:

Sampling and Estimation

8. In Q7 above, assume the population variance was unknown and we

8. A is Correct. Using Formula 2, s = 21.06, n = 34, SE = 3.605.

22. A is correct. For confidence intervals based on samples from normally

c. The probability of correctly rejecting the null

18. We would use a paired comparisons test to:

7. B is correct. Whereas the significance level of a test is the probability of

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