Investment Quiz

1. When interest rates rise, the value of bonds:
a. rise
b. fall
c. stay the same

2. Owning a 30-year United States government bond:
a. reduces default risk
b. reduces interest rate risk
c. reduces all risks

3. The best measurement for return on a portfolio is:
a. price change
b. standard deviation
c. dividend yield
d. internal rate of return

4. Over the past 10 years ending in 2008, what has been the annual return of stocks as measured by the S&P 500 index:
a. about -1%
b. about +3%
c. about +10%
d. about +25%

5. The yields on tax-exempt bonds are usually:
a. higher than those of taxable bonds
b. lower than those of taxable bonds
c. about the same as taxable bonds

6. Which of the following is true:
a. Mutual funds purchased from banks are guaranteed by the FDIC
b. The insurance on brokerage accounts available from the Security Investors Protection Corporation (SIPC) insures investments against default
c. Money market funds are insured by the government
d. Government insurance on certificates of deposit is limited to $250,000

7. Which of the following is true:
a. There are more mutual funds than New York Stock Exchange listed stocks
b. Stocks on the New York Stock Exchange are safer than those on the NASDAQ
c. Stocks offered through initial public offerings (IPO's) are first traded on NASDAQ

8. Which equity market benchmark or stock exchange index is the most representative gauge of the entire U.S. stock market?
a. Dow Jones Industrial Average
b. S & P 500 Index
c. Wilshire 5000 Total Market Index
d. NASDAQ Composite Index

9. Which type of U.S. Treasury obligation will fluctuate more in value as interest rates change?
a. A 90-day Treasury bill
b. A 2-year Treasury note
c. A 30-year Treasury bond

10. As you approach a financial objective, such as retirement, you should:
a. Take more risk with your investments
b. Take less risk with your investments
c. It makes no difference

11. Mutual fund proxies and annual reports are useless materials and can be discarded without reading.
a. True
b. False

12. A long-term corporate bond with a AAA rating:
a) Is absolutely safe
b) Never fluctuates in value
c) Generally pays a lower interest rate than a bond with a A rating
d) Is tax-exempt

13. The recent performance of a mutual fund (the last quarter or year) is the best evaluation tool for predicting how the fund will perform over the next two years.
a. True
b. False

14. Mutual funds that own U.S. Government bonds:
a. are absolutely safe
b. always provide high returns
c. have stable net asset values
d. none of the above

15. U. S. Treasury notes have maturities of what lengths:
a. Less than a year
b. Two to ten years
c. Ten to thirty years

16. Asset allocation is the investment strategy of dividing your portfolio into stock, fixed income and cash investments. It is usually based on your time horizons and risk tolerance. Generally, older investors have a more conservative allocation with more of their portfolio in?
a. Stocks
b. Stocks and long-term bonds
c. Cash and shorter-term bonds

17. What is dollar cost averaging?
a. The process of buying an equal number of mutual fund shares on a regular basis.
b. The process of buying an equal dollar amount of mutual fund shares on a regular basis.
c. The process of buying mutual funds when prices are lower.

18. When a company has an initial public offering (IPOs) and sells shares to the public, investors can:
a. Get in on a surefire winner
b. Buy shares at no cost
c. Have a low cost investment in a growing company
d. None of the above

19. Owning mutual funds can save you taxes.
a. True
b. False

20. A mutual fund’s performance is best measured by?
a. Yield
b. Income return
c. Total return
d. Capital gains distributions

21. Many conservative investors like electric utility company stocks because:
a. Utility stocks very rarely go down in price
b. Utility stocks usually split often to provide better returns
c. Utility stocks usually have predictable attractive dividend yields

22. When you buy a stock, you have how many days to pay for it?
a. 1 day
b. 3 days
c. 5 days

23. Financial planners can charge:
a. Commissions
b. Fees based on time spent
c. Fees based on asset levels
d. All of the above

24. Money market mutual funds typically own:
a. Stocks
b. Preferred stocks
c. Government obligations
d. Certificates of deposit
e. Corporate commercial paper

25. Mutual funds must make distributions of what types of earnings to fund shareholders?
a. Income from dividends and interest
b. Net capital gains on sold investments
c. Net gains in value of investments held

26. The 30-year U.S. Treasury Bond is often called the "benchmark" because:
a. It is considered the most credit-worthy type of bond
b. It was originally created based on a proposal by Ben Franklin while sitting on a bench at the Constitutional Convention in 1776
c. It has the longest maturity of any government bond

27. What is a mutual fund group:
a. A series of funds that have similar investment policies.
b. A series of funds issued at different times
c. A group of funds issued by the same sponsor.

28. A "bear" stock market is usually defined as one that has what level of decline.
a. 10%
b. 15%
c. 20%
d. 30%

29. The key difference between U.S. Treasury bonds, bills and notes is:
a. Level of default risk
b. Rates of interest
c. Uses of proceeds
d. Maturity term

Answers:
1. b) The market values of bonds change in the opposite direction of interest rate changes. If interest rates rise, bond values fall. If rates fall, values rise. The magnitude of the value change is influenced by the length of time to the bond's maturity.

2. a) U.S. Government bonds are backed by the full faith and credit of the U.S. Government. They are generally considered to have no, or almost no, default risk. However, the market value of U.S. Government bonds rise and fall, just like other bonds, as interest rates change.

3. d) To measure investment performance, you must take into account price changes and any returns, such as dividends and interest. The measurement that does that is the "internal rate of return". It also takes into account the timing of any dividends and interest.

4. a) Over the past 10 years (1999 – 2008), the average return on the S&P 500 index was a negative 1.38%. The average return on long-term government bonds has been about 8.4% and short-term T-Bills have produced an average return of about 3.2%.

5. b) Tax exempt bonds usually have lower interest rates than taxable bonds because owners are not subject to federal income tax on the interest. When considering buying bonds, it is important to compare the after-tax yields of taxable and tax exempt bonds with similar maturity and quality.

6. d) The only insurance available on investments is the FDIC insurance on bank accounts and certificates of deposit. No mutual funds or money market funds are insured or guaranteed against loss. FDIC or NCUA insurance is generally limited to $250,000 per person per account.

7. a) The number of mutual funds has grown dramatically over the past few years. There are over 7000 mutual funds and over 3000 stocks on the NYSE. Initial public offerings and riskier stocks can be found on both the NYSE and NASDAQ.

8. c) The Wilshire 5000 Total Market Index includes the 5000 largest stocks regardless of what exchange they are traded on. This broad measure is best reflection of all markets. The other indexes include fewer issues or are comprised of issues from only one exchange.

9. c) Longer-term bonds will fluctuate more in value as interest rates change. Even though U.S. Treasury obligations are considered to have virtually no default risk, their values will change as interest rates rise and fall (the fluctuations in values of short-term T-Bills will be very slight.) And remember that values change in the opposite direction of interest rate changes. When rates fall, values rise. When rates rise, values fall.

10. b) As you approach a financial goal, it is advisable to reduce the risk of your investments. For example, if you are planning to retire at age 65, it makes sense to start being more conservative in your late 50's and early 60's. While the returns of aggressive investments may be higher, they are often more volatile. If there would be a bear stock market, there would be less time for you to recover.

11. b) False. While mutual fund annual reports and proxies may seem boring and overwhelming, there are a few things you should look for in them. The annual report often provides some insights into the thinking of the portfolio manager. The proxy may include fee increases and changes in investment objectives. If there are things in these documents you don't understand, call the fund or your financial advisor.

12. c) A corporate bond with a AAA rating (highest) usually pays a lower interest rate than bonds of lower quality. The value of the bond will fluctuate as interest rates change. Its value will rise when rate fall and the value will fall if rates rise. Only bonds from municipalities are tax-exempt.

13. b) False. Short term past performance should never be used to predict the future results of a mutual fund. A fund's performance over a longer period (3, 5, or 7 years) is one of the factors you should consider. When looking at mutual fund performance, be sure the current portfolio manager is the one responsible for the performance. You should also consider the objective of the fund, the level of costs within the fund and whether there is an initial commission charged when you buy the fund.

14. d) While U.S. Government bonds are considered to have almost no default risk, their values change in the opposite direction of interest rate changes. The same holds true for mutual funds owning U.S. Government bonds. By owning a Government mutual fund, you can get the benefit of attractive (but not always high) returns, but will have the normal interest rate risk. Be wary of funds that use sophisticated trading strategies to offset that risk or to enhance the returns.

15. b) Treasury notes have maturities when issued of two to ten years. Treasury bills have maturities of less than a year and Treasury bonds have maturities of ten to thirty years.

16. c) Equity investments have produced the highest returns over the long-term, but usually with higher risks. Long-term bonds may offer higher interest rates but come with a greater risk of value fluctuation as interest rates change. Most people, as they approach or during retirement employ a more conservative asset allocation strategy and shift larger portions of their portfolios into lower risk shorter-term bonds and liquid cash positions. It is always advisable to consult your investment advisor to find the asset allocation that is appropriate for your situation.

17. b) Dollar cost averaging refers to the process of buying an equal dollar amount of mutual funds on a regular basis. Using this approach results in the purchase of more shares when prices are lower and fewer shares when prices are higher. The end result is that one's average cost is lower. The strategy also adds some discipline to the investment process and eliminates the risk of buying all the shares at a market peak.

18. d) Initial public offerings are risky. Usually the company has a limited history of results with an unknown future. In recent years, the stock prices of many IPOs have risen sharply initially only to fall dramatically later on. Even though there may not be a "commission" on the purchase of an IPO, a portion of the price goes to the brokerage firm. Be cautious when considering this type of investment.

19. b) False. The income tax issues associated with mutual funds can be confusing. Under the income tax law, mutual funds make distributions of dividends and interest that they receive. In addition, they must distribute any net capital gains they incur. These distributions are reported on a Form 1099 and are taxable to the mutual fund shareholder. If these distributions are reinvested into additional shares, they are still taxable and increase your taxable basis in the shares you own. Keep careful track of your mutual fund activities. Of course, if you own the mutual fund in an IRA, the earnings are tax deferred.

20. c) Total return is the best measure of a fund’s performance. It takes into account any income and capital gains distributions and changes in the value of the mutual fund shares. When evaluating mutual fund performance, it is best to look at total returns over a long-term period of at least 5 years. Also make sure the current portfolio manager is the one responsible for the performance you are reviewing.

21. c) Utility stocks have historically had very predictable dividends. They are often highly regulated and have not had as high of growth rates as some other types of stocks. Many conservative investors have found the returns from dividends attractive enough to overcome the lack of significant growth opportunity.

22. b) Three days is usually how long you have to pay for stock purchases. This is commonly called "T+3." The broker also has three days to pay you when you sell a stock.

23. d) The term financial planner does not limit the way they charge their clients. You should discuss the costs of dealing with any type of financial advisor including stockbrokers, financial planners, and financial consultants.

24. c), d) and e) Money market mutual funds (MMFs) usually own short term obligations such as Treasury Bills, CDs and commercial paper from high quality issuers. The short term nature of their investments usually results in lower returns than with longer term bond mutual funds, and their interest yields can change daily.

25. a) and b) Mutual funds must distribute any dividends and interest they receive along with any net capital gains they incur from the sale of securities within the fund. These distributions can be made throughout the year. However, capital gains distributions are usually made later in the year. These distributions are reported on a Form 1099 and must be reported as income on the tax return of the mutual fund shareholder. Of course, if the mutual funds are held within an IRA or qualified retirement plan, there is no current tax.

26. a) This long term bond is used as a central measuring point because it is generally thought of as not having any default risk. However, the current value of this bond and others change as interest rates change.

27. c) A mutual fund group or complex will usually offer several funds with different investment objectives.

28. b) A falling stock market is called a "bear" market. Usually this means the market has fallen at least 15% or more. The terms “bear” and “bull” got their meanings from bears pawing down at the dirt and bulls tossing their horns up in the air.

29. d) All U.S. Treasury obligations are usually thought to be free of default risk. The difference is their maturities. Treasury bills are usually considered to have a maturity of less than a year, Treasury notes have maturities from one to ten years and Treasury bonds have maturities up to 30 years.

Financial articles provided by WestStar Bank are for information purposes only and are not to be construed as tax or investment advice. Please consult with a tax and/or investment professional if you have any questions or doubts about any of the information contained in the articles.

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