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BSc (Hons) Management with Finance

Cohort: BMANF/12/PT Aug &

BMANF/13/FT Aug & BMANF/12B/FT

Examinations for 2014 – 2015 Semester I /

2014 Semester II

MODULE: INVESTMENT ANALYSIS

MODULE CODE: ACCF2210

Duration: 2 Hours

Instructions to Candidates:

1. This question paper consists of Section A and Section B.

2. Section A is Compulsory.

3. Answer any two questions from Section B.

4. Always start a new question on a fresh page.

5. Total Marks: 100.

This Question Paper is printed on BOTH SIDES.

This Question Paper Contains 6 questions and 7 pages (including FORMULAE

SHEET)

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SECTION A: COMPULSORY

QUESTION 1: (40 MARKS)

PART A: (20 MARKS)

Harry Jones has invested one-third of his funds in Share 1 and two-thirds of his funds in

Share 2. His assessment of each investment is as follows:

Item Share 1 Share 2

Expected return (%) 15.0 21.0

Standard deviation (%) 18.0 25.0

Correlation between the

returns

0.5

(a) What are the expected return and the standard deviation of return in Harry’s

portfolio? (8 marks)

(b) Recalculate the expected return and the standard deviation where the correlation

between the returns is 0 and 1.0, respectively. (7 marks)

(c) Is Harry better or worse off as a result of investing in 2 securities rather than in 1

security? (5 marks)

PART B: (14 MARKS)

Explain fully the Capital Asset Pricing Model (CAPM) and the Arbitrage Pricing Theory

(APT).

PART C: (6 MARKS)

Explain three main differences between the Capital Market Line and the Security Market

Line.

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SECTION B: ANSWER ANY TWO QUESTIONS

QUESTION 2: (30 MARKS)

EITHER

(a) Discuss the underlying assumptions of the Capital Asset Pricing Model (CAPM)

and how the realism and relevance of its underlying assumptions might be

questioned.

(4 marks)

(b) The CAPM is used widely in investment management.

Using the CAPM formular = rf +β(rm – rf), if the risk-free rate of return is 5% and

the market is expected to return 12%, calculate what return a diversified

investor would expect from an investment with a β of:

(i) 0

(ii) 0.5

(iii) 1.5

(iv) 2.0

Show all workings as part of your answer. (8 marks)

(a) Compare and contrast the salient points of “passive and “active investment

management. (8 marks)

OR

(i) Explain the concept of stock market efficiency. (9 marks)

(ii) Explain three tests of weak form market efficiency. (9 marks)

(iii) Explain how you would conduct a test of semi-strong market efficiency; using an

appropriate example. (12 marks)

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QUESTION 3: (30 MARKS)

EITHER

(a) State and explain two disadvantages of using the NPV as a method of

investment Appraisal. (4 marks)

(b) State three main disadvantages of not using Index Funds in investment

management. (6 marks)

(c) Identify four aims for the use of derivatives in efficient portfolio management.

(4 marks)

(d) Explain how, in Modern Portfolio Theory, risk-adverse investors select portfolios

of securities. (4 marks)

OR

(a) (i) Distinguish between technical and fundamental analysis. (5 marks)

(ii) Explain three main approaches under technical analysis and two main

approaches under fundamental analysis. (13 marks)

(b) Distinguish between call and put options, illustrating your answer with an

appropriate numerical example. (12 marks)

QUESTION 4: (30 MARKS)

EITHER

Redwood Industries plc is a highly acquisitive company that is looking to expand, both

domestically and overseas, through mergers and acquisitions.

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(a) What factors should Redwood Industries plc take into account when deciding on

finance for an overseas acquisition? (10 marks)

(b) Give five benefits of overseas investment. (5 marks)

(c) Describe the general risks that are faced by individual investors? (10 marks)

(d) Explain two theories that determine the shape of a yield curve. (5 marks)

OR

(a) An individual has utility of wealth function U=ln(W) and has an initial wealth,

of Rs100,000. She faces the following risky prospects:

Prospect (A) - gainingRs 30,000 with probability 0.20;

Prospect (B) - gaining Rs 8,000 with probability 0.40

Prospect (C) - losingRs 5000.

The cost of participating in the gamble is Rs 500.

Required:

(i) Calculate her expected utility of wealth. (4 marks)

(ii) Her certainty equivalent wealth (CEW). (3 marks)

(iii) The economic agent is risk loving. Do you agree? (4 marks)

(iv) If she is offered insurance at 300, will she take it? (4 marks)

(v) The expected utility of wealth assuming she lost on the first round.

(5 marks)

(b) Distinguish fully between the different types of financial instruments a public

limited company can issue in order to raise capital. (10 marks)

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QUESTION 5: (30 MARKS)

EITHER

(a) Describe the role played by the Stock Exchange. (10 marks)

(b) Briefly state the benefits associated with a company listed on the stock

exchange. (5 marks)

(c) List the desirable characteristics of a Stock Market. (5 marks)

(d) Describe the Investment Decision Process. (10 marks)

OR

(a) Explain fully, with the help of appropriate equations, three bond yield measures.

(15 marks)

(b) Discuss the competing theories underlying the term structure of interest rates.

(15 marks)

QUESTION 6: (30 MARKS)

(a) Fundamental to an understanding of investment advice is an appreciation of the

relationship between risk and reward. Explain and illustrate the ‘risk reward profile’

for individual investors using examples to illustrate your answer. (10 marks)

(b) Discuss the advantages and disadvantages of the four main methods used by

passive fund managers to match the investment performance of a benchmark.

(10 marks)

(c) Suggest reasons why investors might prefer a passive rather than an active

approach to bond fund management. (10 marks)

***END OF QUESTION PAPER***

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Formula Sheet

1 1n

iPVA PMT

i

1

11 1

n

Due

iPVA PMT

i

1 1

1

N

B N

YTM FV C

YTM YTM

WACC =

C =P +S -

E(RI) = RF + βI [ E(Rm) – Rf)