File: ch04, Chapter 4: SECURITIES MARKETS AND MARKET INDEXES

Type: Multiple Choice

1. Which of the following is a major reason why financial markets are so important for our
economy?

a. Financial markets provide a location for speculators to make tremendous profits.

b. Financial markets provide the channel for funds to move from savers to those who use
the funds.
c. Financial markets provide an excellent return for savers who do not currently need their
funds.
d. Financial markets provide a method for large users of funds to outbid smaller users for
limited funds.

Ans: b
Difficulty: Easy
Response: The chief function of capital markets is to allocate resources optimally, with investors
providing companies with the capital necessary to expand their operations.
Ref: The Importance of Financial Markets

2. Why do most companies use investment bankers to help with IPOs?

a. The use of investment bankers is required by the Securities and Exchange Commission.
b. Investment banks have huge amounts of money, and seek many investment opportunities.
c. Investment banks have substantial expertise in pricing and distributing the new issue.
d. Investment banks offer their services to companies in many countries.

Ans: c
Difficulty: Easy
Response: Investment bankers serve a critical function as they are able to reach widely dispersed
providers of investment capital for their clients.
Ref: The Primary Markets

3. Which of the following is not a role of investment bankers?

a. Help companies prepare for IPOs

b. Designing and selling securities in the primary markets
c. Assisting retail investors with their stock and bond purchases
d. Setting the rules for the investment sector

Ans: d
Difficulty: Easy
Response: The Securities and Exchange Commission sets the basic rules for the investment
sector.
Ref: The Primary Markets
4. Which of the following is not an advantage of private placements of securities?

a. The securities, usually debt, are offered to a wide range of private investors.
b. The issuer does not have to register with the SEC.
c. Investment bankers’ fees are reduced or eliminated.
d. The issue is offered to a small number of very large, institutional investors.

Ans: a
Difficulty: Medium
Response: Private placements, by their very nature, are offered to a limited group of institutional
investors only.
Ref: The Primary Markets

5. What is an advantage for investors of trading securities on the New York Stock
Exchange?

a. NYSE has the lowest commissions.

b. All U.S. stocks are traded on NYSE.
c. NYSE has many participants, providing a very liquid market.
d. The major brokers, such as Merrill Lynch, also act as specialists on NYSE.

Ans: c
Difficulty: Easy
Response: The NYSE is the oldest, largest and most liquid stock exchange in the world.
Ref: The Secondary Markets

6. Which of the following is not a factor when the NYSE considers whether a company can
list on the NYSE?

a. The degree of nationwide interest in the company.

b. The levels of profits and assets in the company.
c. The company has its headquarters in the U.S.
d. The company has a strong position in its industry.

Ans: c
Difficulty: Medium
Response: Many NYSE listed stocks are not headquartered in the U.S.
Ref: The Secondary Markets

7. How does NASDAQ handle the function specialists provide at the NYSE?

a. On NASDAQ, several market makers supply bid and ask prices for each stock.
b. On NASDAQ, one market maker supplies bid and ask prices for each stock.
c. NASDAQ links brokers electronically, so specialists are not necessary.
d. NASDAQ cannot afford to pay specialists because its commissions are lower.
Ans: a
Difficulty: Difficult
Response: The NASDAQ is an electronic trading system providing instantaneous transactions as
multiple market makers compete for investor orders.
Ref: The Secondary Markets

8. Which of the following countries is not considered an “emerging market”?

a. Brazil
b. Japan
c. India
d. China

Ans: b
Difficulty: Medium
Response: Japan has been a developed economy for several decades; however, Brazil, India and
China are still experiencing explosive growth in their respective economies, making them
“emerging markets.” They are three components of the BRIC nations (Russia is the fourth).
Ref: The Secondary Markets

9. Which of the following U.S. stock market indexes is most heavily influenced by the
performance of large capitalization technology stocks?

a. NASDAQ Composite Index

b. S&P 500
c. Dow Jones Industrial Average
d. Russell 2000

Ans: a
Difficulty: Easy
Most large cap technology companies, like Cisco, Dell, Microsoft, Oracle and Intel, are listed on
the NASDAQ, and comprise a large percentage of its Composite Index.
Ref: Stock Market Indexes

10. Which of the following U.S. stock market indexes provides the best measure of mid-
capitalization companies?

a. Wilshire 5000
b. Russell 2000
c. Russell 1000
d. S&P 400

Ans: d
Difficulty: Medium
Response: The “S&P 400 Mid Cap Index” is the best available index of mid-cap stocks in the
U.S. The Wilshire 5000 is the broadest measure of U.S. stocks, with over 6,500 stocks, including
large caps. The Russell 2000 is generally thought of as a proxy for small cap stocks. The
Russell 1000 includes most mid-cap stocks, but large-cap stocks dominate it because it is
market weighted.
Ref: Stock Market Indexes

11. Which of the following financial centers does not have a major stock exchange like the
NYSE?

a. New York
b. London
c. Tokyo
d. Shanghai

Ans: d
Difficulty: Easy
Response: New York, London and Tokyo are major financial centers with very large and liquid
exchanges for listed companies. Shanghai is not seen as a major financial center.
Ref: The Secondary Markets

12. Which of the following is a price-weighted stock index?

a. The Dow Jones Industrial Average

b. Standard & Poor’s 500 Composite Index
c. The NYSE Composite index
d. The Russell 2000 Index

Ans: a
Difficulty: Easy
Response: The NYSE Composite, S&P 500 and Russell 2000 are all weighted by market
capitalization, unlike the Dow.
Ref: Stock Market Indexes

13. Which of the following indexes is a better index for tracking “small cap” stocks?

a. The Dow Jones Industrial Average

b. Standard & Poor’s 500 Composite Index
c. The NYSE Composite index
d. The Russell 2000 Index

Ans: d
Difficulty: Easy
Response: The Dow, S&P and NYSE Composite are all large capitalization indexes.
Ref: Stock Market Indexes

14. Which of the following is the best stock index?

a. The Dow Jones Industrial Average
b. The S&P 500
c. The Wilshire 5000 Index
d. The index deemed “best” depends on what the user is looking for

Ans: d
Difficulty: Easy
Response: All of the indexes are useful for the particular sector of the equity markets they
represent.
Ref: Stock Market Indexes

15. Where are most corporate bonds traded?

a. NYSE
b. AMEX
c. NASDAQ
d. Over the counter

Ans: d
Difficulty: Easy
Response: Most corporate bonds are traded over the counter between institutional investors and
broker dealers.
Ref: The Bond Markets

16. Which of the following bond markets has the most liquidity?

a. NYSE’s Automated Bond System

b. The Treasury bond market
c. The Agency bond market
d. The Municipal bond market

Ans: a
Difficulty: Easy
Response: The NYSE has the largest centralized bond market on any exchange.
Ref: The Bond Markets

17. Which of the following bond markets has the least liquidity?

a. NYSE’s Automated Bond System

b. The Treasury bond market
c. The Agency bond market
d. The Municipal bond market

Ans: d
Difficulty: Easy
Response: The Municipal bond market is an OTC market with a large number of small illiquid
issues.
Ref: The Bond Markets

18. Where is a good source for a small investor to find information on bond prices?

a. Brokerage firms
b. Internet sites
c. The bond issuer
d. Institutional bond dealers

Ans: b
Difficulty: Easy
Response: There are numerous websites dedicated to pricing all types of bonds.
Ref: The Bond Markets

19. Which of the following has been used in the financial markets for the longest time?

a. The “open outcry” method

b. The national market system
c. The intermarket trading system
d. Electronic communications networks

Ans: a
Difficulty: Easy
Response: The “open outcry” method is much older than the other innovations.
Ref: Derivatives Markets

20. A major appeal for firms to sell bonds in private placements is the potential for:

a. lower interest expense.

b. savings from not registering with the SEC or incurring an underwriting spread.
c. greater regulatory protection.
d. enhanced market timing ability to facilitate value-enhancing repurchases.

Ans: b
Difficulty: Medium
Ref: The Primary Markets

21. The difference between the bid and the ask price is known as the:

a. discount.
b. premium.
c. spread.
d. commission.

Ans: c
Difficulty: Medium
Ref: The Secondary Markets

22. The S&P 500 comprises approximately what percent of the market capitalization of the
U.S. stock market?

a. 40%
b. 50%
c. 60%
d. 75%

Ans: d
Difficulty: Medium
Ref: Stock Market Indexes

Type: True False

1. The major primary securities market in the U.S. is the New York Stock Exchange.

Ans: False
Response: The NYSE is a secondary market. The primary market in securities is defined as the
issuance of new stocks and bonds.
Ref: The Primary Markets

2. The first time a corporation offers an issue of stock to the general public is called an
initial public offering (IPO).

Ans: True
Ref: The Primary Markets

3. Many investors like to buy stocks at, or shortly after, an IPO because the prices of IPO’s
almost always go up.

Ans: False
Ref: The Primary Markets

4. Investment banks usually form “syndicates” to spread the risk of prices dropping
significantly while the banks are reselling the securities to the public.

Ans: True
Ref: The Primary Markets
5. Private placements involve the sale of securities – usually debt – to large, sophisticated
investors.

Ans: True
Response: Companies can sell their debt directly to insurance companies or pension funds, with
minimal assistance from the investment bankers.
Ref: The Primary Markets

6. The NYSE has stricter listing requirements than either AMEX or NASDAQ.

Ans: True
Response: The NYSE is typically comprised of much larger companies with stricter listing
requirements than AMEX or NASDAQ.
Ref: The Secondary Markets

7. Both the NYSE and NASDAQ use specialists to ensure orderly markets in the stocks to
which they are assigned.

Ans: False
Response: NYSE (and AMEX) uses a single specialist for each company, but NASDAQ uses
several, maybe many “market makers,” to buy and sell stocks from the general public.
Ref: The Secondary Markets

8. ECNs trade securities anonymously and inexpensively.

Ans: True
Response: ECNs use computers to match buy and sell orders automatically.
Ref: The Secondary Markets

9. Although the Dow-Jones Average is more often reported in the popular press, the S&P
500 index is considered a better representation of “the market.”

Ans: True
Response: Not only is the S&P 500 broader (500 companies vs. 30), the component stocks are
weighted by capitalization, making it a much better representation of U.S. stock market
performance.
Ref: Stock Market Indexes

10. Most corporate bonds are traded on the New York Stock Exchange.

Ans: False
Response: Most corporate bonds are traded in large units, among the major institutional
investors, off the exchange.
Ref: The Bond Markets