Wealthy individuals who put their own money into small, early-stage companies in exchange for a share of ownership are known as what?
Angel investors
✓
Bondholders
Commercial banks
Mutual fund managers
Correct Answer
Angel investors
Angel investors are wealthy individuals who invest their personal funds in young companies and receive part ownership in return. Bondholders lend money to an established borrower and are owed interest, not ownership. Commercial banks lend depositors' money rather than their own personal wealth. Mutual fund managers invest pooled money from many savers, usually in publicly traded stocks and bonds.
Category: Early-Stage Financing
Question 2
Which kind of firm gathers money from sources such as pension funds and college endowments, invests it in small companies with strong growth potential, and often advises those companies on their products and key hires?
Commercial bank
Venture capital firm
✓
Credit rating agency
Credit union
Correct Answer
Venture capital firm
A venture capital firm raises funds from large institutions and invests them in promising young companies, and it usually takes an active advisory role to protect its investment. A commercial bank lends money and expects repayment with interest rather than taking an ownership stake. A credit rating agency judges the default risk of borrowers but does not invest in them. A credit union is a member-owned institution that takes deposits and makes loans to its members.
Category: Early-Stage Financing
Question 3
Why do brand-new firms usually depend on their founders' savings or on early-stage investors rather than on selling bonds to the public?
Federal law forbids new firms from borrowing money
Only government agencies are allowed to issue bonds
Outsiders know little about whether the firm will earn profits
✓
New firms must pay out all of their revenue to owners
Correct Answer
Outsiders know little about whether the firm will earn profits
A new firm has little track record, so outside lenders cannot judge whether it will be able to make interest payments, an example of imperfect information. Federal law forbids new firms from borrowing money is incorrect, since startups can and do take out loans. Only government agencies are allowed to issue bonds is incorrect, because corporations issue bonds too. New firms must pay out all of their revenue to owners is not a rule of any kind.
Category: Early-Stage Financing
Question 4
A company issues $20 million in 10-year bonds that pay 5% interest per year. How much interest does the company pay its bondholders each year?
$100,000
$2 million
$10 million
$1 million
✓
Correct Answer
$1 million
Annual interest equals the amount borrowed times the interest rate: $20 million x 0.05 = $1 million, and the $20 million itself is repaid at the end of the 10 years. $100,000 would be a rate of only 0.5%. $2 million would be a 10% rate. $10 million is the total interest paid over all 10 years, not the yearly amount.
Category: Bonds and Borrowing
Question 5
Which feature of a corporation means that its shareholders cannot lose more than the amount they invested if the company is unable to pay its debts?
Limited liability
✓
Diversification
Collateral
Dilution
Correct Answer
Limited liability
Limited liability protects shareholders' personal assets, so the most an owner of stock can lose is the value of the shares. Diversification is spreading investments across many assets to lower risk. Collateral is an asset a borrower pledges to a lender. Dilution is the shrinking of each existing owner's share when a firm issues new stock.
Category: Corporate Stock
Question 6
An investor buys 10 shares of a stock at $30 per share and later sells all 10 shares at $42 per share. Ignoring fees and dividends, what is the investor's total capital gain?
$12
$120
✓
$300
$420
Correct Answer
$120
A capital gain is the increase in an asset's value between purchase and sale: ($42 - $30) x 10 shares = $120. $12 is the gain on just one share. $300 is the original amount paid for the shares. $420 is the total amount received from the sale, not the gain.
Category: Corporate Stock
Question 7
A family bought a house for $300,000. The house is now worth $350,000, and the family still owes $180,000 on the loan used to buy it. How much home equity does the family have?
$50,000
$120,000
$170,000
✓
$350,000
Correct Answer
$170,000
Home equity is the current value of the house minus what is still owed on it: $350,000 - $180,000 = $170,000. $50,000 is only the increase in the home's value. $120,000 is the original price minus the loan balance, which ignores the rise in value. $350,000 is the full market value, which ignores the debt.
Category: Investment Tradeoffs
Question 8
In a public company, which group is elected by the shareholders, with votes in proportion to the number of shares owned, and hires the company's top executives?
Outside auditors
Securities and Exchange Commission
Venture capitalists
Board of directors
✓
Correct Answer
Board of directors
Shareholders elect the board of directors, which oversees the company and hires its top executives. Outside auditors are hired to review the firm's financial records, not to choose its managers. The Securities and Exchange Commission is a federal agency that receives required reports from public companies. Venture capitalists invest in young companies before they go public.
Category: Corporate Governance
Question 9
A well-established firm wants to raise money while keeping full control in the hands of its current owners, and it is confident it can make fixed payments on schedule. Which source of financial capital fits these goals?
Issuing bonds
✓
Selling new shares of stock
An initial public offering
Taking on a venture capital partner
Correct Answer
Issuing bonds
Borrowing through bonds leaves ownership unchanged, but it commits the firm to scheduled interest payments whether or not its income is high. Selling new shares of stock brings in new owners and dilutes control. An initial public offering is a firm's first sale of stock to the public, which also gives up ownership. Taking on a venture capital partner means handing an ownership share to the investors.
Category: Bonds and Borrowing
Question 10
An investor holds a bond that pays a fixed 4% coupon rate. Market interest rates on similar newly issued bonds then rise to 7%. What happens to the price at which the investor could sell the older bond?
It rises above the face value
It falls below the face value
✓
It stays exactly at the face value
Its coupon rate rises to 7%
Correct Answer
It falls below the face value
Buyers can now earn 7% on new bonds, so they will pay less than face value for a bond that pays only 4%, which shows that bond prices move opposite to market interest rates. It rises above the face value would happen if market rates fell instead. It stays exactly at the face value ignores the better deal available on new bonds. Its coupon rate rises to 7% is wrong because a bond's coupon rate is fixed when it is issued.
Category: Bonds and Borrowing
Question 11
If the interest rate is 10%, what is the present value of $220 to be received one year from now?
$198
$210
$200
✓
$242
Correct Answer
$200
Present value is the amount that, invested today at the interest rate, would grow to the future payment: $220 / 1.10 = $200, and $200 x 1.10 = $220 confirms it. $198 comes from subtracting 10% of $220 instead of dividing. $210 subtracts only half the interest. $242 is what $220 would grow to in a year, the opposite calculation.
Category: Bonds and Borrowing
Question 12
A bond with a $1,000 face value and an 8% coupon rate has one year left before it is repaid. You buy it for $960, and one year later you receive the $1,000 face value plus $80 in interest. What is your yield, rounded to one decimal place?
8.0%
11.1%
12.0%
12.5%
✓
Correct Answer
12.5%
Your total gain is $1,080 - $960 = $120, and yield divides that gain by the price you paid: $120 / $960 = 0.125, or 12.5%. 8.0% is the coupon rate, which ignores the capital gain from buying below face value. 11.1% divides the gain by $1,080 instead of by the purchase price. 12.0% divides the gain by the $1,000 face value instead of by the price paid.
Category: Bonds and Borrowing
Question 13
The ease with which an asset can be turned into money that can be spent right away is called its what?
Liquidity
✓
Yield
Risk premium
Maturity
Correct Answer
Liquidity
Liquidity measures how quickly and cheaply an asset can be converted into spendable money; a checking account is very liquid while a house is not. Yield is an investment's total rate of return. A risk premium is extra interest paid to compensate for the chance of default. Maturity is the date when a bond's face value is repaid.
Category: Investment Tradeoffs
Question 14
Which bank product requires a saver to leave a set amount on deposit for a fixed period, pays a higher interest rate than a typical savings account, and charges a penalty for early withdrawal?
Checking account
Certificate of deposit
✓
Municipal bond
Index fund
Correct Answer
Certificate of deposit
A certificate of deposit pays more interest because the saver gives up liquidity by agreeing to leave the money in the bank for a set term. A checking account pays little or no interest and allows withdrawals at any time. A municipal bond is a debt issued by a state or local government, not a bank deposit. An index fund is a mutual fund that tracks a market measure.
Category: Bank Accounts
Question 15
A bank collects deposits from many savers and lends those funds to borrowers who never deal with the savers directly. In this role, the bank is acting as what?
Angel investor
Credit rating agency
Financial intermediary
✓
Stock exchange
Correct Answer
Financial intermediary
A financial intermediary stands between savers and borrowers, pooling deposits and lending them out. An angel investor puts personal wealth into young firms in exchange for ownership. A credit rating agency judges the risk of borrowers but does not lend. A stock exchange is a marketplace where investors buy and sell shares from each other.
Category: Bank Accounts
Question 16
Bonds issued by firms that have a relatively high chance of failing to repay, and that therefore pay high interest rates to attract buyers, are commonly called what?
Treasury bonds
Municipal bonds
Savings bonds
Junk bonds
✓
Correct Answer
Junk bonds
Junk bonds, also called high-yield bonds, come from riskier borrowers and must pay higher rates to compensate investors for default risk. Treasury bonds are issued by the U.S. federal government and pay relatively low rates because default risk is very low. Municipal bonds are issued by state and local governments. Savings bonds are low-risk bonds sold by the U.S. government to individual savers.
Category: Bonds and Borrowing
Question 17
A mutual fund designed to match the performance of a broad market measure, such as the S&P 500, is called what?
Index fund
✓
Venture capital fund
Money market account
Certificate of deposit
Correct Answer
Index fund
An index fund holds the stocks in a market index so that its return mirrors the overall market rather than trying to beat it. A venture capital fund invests in young private companies. A money market account is a type of interest-paying bank account. A certificate of deposit is a fixed-term bank deposit.
Category: Investment Tradeoffs
Question 18
Which part of a bond's interest rate compensates the lender for the chance that the borrower will not repay?
Inflation adjustment
Risk premium
✓
Coupon payment
Face value
Correct Answer
Risk premium
Interest rates combine payment for waiting, an adjustment for expected inflation, and a risk premium that rises with the borrower's chance of default. The inflation adjustment protects the lender's buying power, not against nonpayment. A coupon payment is the regular interest check itself, not a component of the rate. Face value is the amount repaid at maturity.
Category: Bonds and Borrowing
Question 19
According to the random walk view of stock prices, why is it so hard to consistently pick stocks that will beat the market average?
Regulators set every stock price at the start of each day
Stock prices stay fixed once a company goes public
Prices already reflect expected profits and move with unpredictable news
✓
Only a company's managers may buy its rising stock
Correct Answer
Prices already reflect expected profits and move with unpredictable news
Many investors are already searching for strong companies, so a firm's expected profits are built into its price, and prices change only when new, unpredictable information arrives. Regulators set every stock price at the start of each day is false, since prices are set by buyers and sellers in the market. Stock prices stay fixed once a company goes public is false because prices change constantly. Only a company's managers may buy its rising stock is false; anyone can buy shares of a public company.
Category: Building Wealth
Question 20
You deposit $1,000 in an account that pays 10% interest compounded once per year. How much is in the account after 2 years?
$1,100
$1,200
$1,331
$1,210
✓
Correct Answer
$1,210
With compound interest, the second year's interest is earned on the first year's interest too: $1,000 x 1.10 = $1,100 after one year, and $1,100 x 1.10 = $1,210 after two. $1,100 is the balance after only one year. $1,200 is the result of simple interest, which pays only on the original deposit. $1,331 is the balance after three years.
Category: Building Wealth