1. Answer this question regarding speculative bubbles: "I thought intrinsic value takes into account the prospective cash flow. Wouldn't that cash flow increase if the demand for a stock increases? Correct me if I'm wrong: People start buying a stock because they think it's going to beat the market. So many people are excited about it that the tremendous increase in demand for the stock drives the price up. But how come the intrinsic value is not affected by this?"

2. Explain why you agree or disagree with this advice: "In an inflationary era, when depreciation of the currency is the order of the day, a fixed, long-term obligation is not the thing to own."

3. In 1999 Charles Volpe, an executive at Kemet Corporation, used a "zero-cash collar," to hedge 100,000 shares of Kemet stock that he owned–then trading in the mid-20s. In this deal with his broker, (a) he has the right to sell 100,000 shares to his broker for $22.37 in January 2001; and (b) his broker has the right to buy these shares at $30.07 on that same date. Because (a) and (b) are thought to be equally valuable, Volpe didn’t pay or get anything for agreeing to this deal. Assume that the price of Kemet stock was $26.22 on the day that this collar was established. Graph the profits from this strategy as a function of the price of Kemet stock on the day this collar expires.

4. Explain why you either agree or disagree with this reasoning: "A stock with a high P/E is inherently riskier than one with a low P/E. Suppose that Stock A has a P/E of 5 and Stock B has a P/E of 10. This means that if each company has a 1% increase in earnings, the price of Stock A will increase by 5% and the price of Stock B will increase by 10%."

5. This baseball contract has a face value of $1,000,000. Every year for 10 years, beginning 21 years from today, the player will be paid $100,000 + 3% interest on the balance of the $1,000,000 that has not yet been paid. Thus, the first payment 21 years from today is $100,000 + 3%(1,000,000) = $130,000; the second payment 22 years from today is $100,000 + 3%($900,000) = $127,000.

a. How much would you pay for the money from this contract? (Just set up.)

b. If your required return is 3%, would you pay more or less than $1,000,000 for the money from this contract? You must give a definite answer (more/less) and explain your reasoning.

6. "I was looking for companies with growing earnings. Calpine had just acquired a geothermal facility in northern California and had just arranged to expand operations elsewhere in the United States. Together, these actions should increase its earnings growth rate." If these actions do in fact increase Calpine’s earnings growth rate, must they also increase the fundamental value of its stock?

7. Between 1976 and 1988, consumer prices increased at an average annual rate of 8.60% in the United Kingdom and 6.28% in the United States.

a. If the law of one price held in 1976, should the U.S. dollar have appreciated or depreciated relative to the British pound during this 12-year period?

b. The exchange rate was virtually constant, at 1.80 dollars/pound in 1976 and 1.78 dollars/pound in 1988. If the U.S. exports to the U.K were equal to U.S. imports from the U.K. in 1976, would you predict that U.S. exports to the U.K. were larger or smaller than U.S. imports from the U.K. in 1988?

c. If these rates of inflation and exchange-rate movements were perfectly anticipated throughout this period, would you predict that interest rates on U.S. government bonds were generally higher or lower than interest rates on U.K. government bonds during this period?

8. Here are the yields to maturity on Treasury bonds with three different coupon rates. Assume that these yields are determined by the expectations hypothesis.

a. Why is the yield to maturity on the 10-year 10% coupon bond higher than the yield on the 10-year 5% coupon bond?

b. What is the realized rate of return on a 15-year bond with 5% coupons held to maturity if future interest rates are equal to the implicit forward rates embedded in the term structure? Give an explicit numerical answer and explain your reasoning.

9. Consider two investments, A and B, each with a current price of $8. A will pay $4 every year, forever, beginning today; B will pay $6 every year, beginning 1 year from today. For each of these investment criteria, which investment is more attractive? (Give an explicit answer.)

(1) payback period

(2) internal rate of return

(3) net present value

10. Explain why you either agree or disagree with this Motley Fool explanation of beta: "A stock with a beta of 1.0 generally rises and falls in sync with the overall market. More volatile stocks have betas greater than 1.0, while steadier ones sport betas under 1.0."