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Concept Checkers SecurityMarket Indicator Series

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1. Which of the following is NOT a criticism of the Dow Jones Industrial Average?

A. The index does not track the NYSE.

B. There are a limited number of stocks in the index.

C. The stocks only represent the biggest NYSE stocks.

D. There is a downward bias in the computation of the index.

2. All of the following are factors to be considered when constructing a market index except:

A. the sample.

B. collecting the data.

C. weighting the items in the sample.

D. the computational procedure needed to combine the items in the sample.

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

A. The NYSE Index.

B. The Standard and Poors 500.

C. The Value Line Composite Average.

D. The Dow Jones Industrial Average.

4. In which of the following weighting schemes do firms with greater market capitalizations have a greater impact on the index than do firms with less market capitalization?

A. Price-weighted.

B. Value-weighted.

C. Equal-weighted.

D. The Dow Jones Industrial Average.

5. Stock splits potentially cause a downward bias in which of the following index weighting schemes?

A. Price-weighted.

B. Value-weighted.

C. Equal-weighted.

D. The Standard and Poor's 500.

6. Which index weighting scheme assumes you make an equal dollar investment in each stock in the index?

A. Unweighted.

B. Price-weighted.

C. Value-weighted.

D. The Standard and Poor's 500.

7. Which index weighting scheme assumes that an investor's portfolio contains an equal number of shares of each stock?

A. Unweighted.

B. Price-weighted.

C. Value-weighted.

D. The NYSE Index.

8. Which of the following is a reason why the creation of bond market indexes is more difficult than for stock market indexes?

A. The price volatility of a bond is constant.

B. The universe of bonds is much smaller than that of stocks.

C. Bond markets have continuous trade data unlike stock markets.

D. The universe of bonds is constantly changing because of numerous new issues, bond maturities, calls, and bond sinking funds.

9. An investor has the following stocks:

	As of January 1	As of December 31
Stock	Value of Stock	Value of Stock
R	$5,000	$3,000
S	$5,000	$1,500
T	$5,000	$500

The market value-weighted index on January 1 is 100. What is the December 31 market value-weighted

index?
A.	33.3.
B.	50.0.
C.	100.0.
D.	500.0.

Answers - Exam Flashbacks

2. A There is an equal % change in price. Thus, the one with the greatest price will have the greatest impact on the average.

3. A This is a geometric mean question.

[(1.2)(0.9)(1.05)]1/3 - 1 = (1.134)1/3 - 1 = 1.0428 - 1 = 0.043 = 4.3%

4. B The S&P 500 index is a market value-weighted index, so it is unaffected by stock splits. Only changes in the total value of an index company's shares will cause the index to change.

Answers - Concept Checkers: Security-Market Indicator Series

1. A The DJIA does a good job tracking the NYSE but is criticized because it only contains 30 stocks. The index represents the 30 largest stocks, and the price-weighting causes a downward bias in the index.

2. B Collecting the data for a market index is easy—it is simply tracking security prices. Selecting the sample, weighting the sample, and the method of computation are the key factors in actually constructing an index.

3. D The DJIA is a price-weighted index. The NYSE and the S&P 500 are market value-weighted, while the Value Line

Composite is an unweighted price index.

4. B Market capitalization has a large effect on value-weighted indexes because firms with the largest market cap may dominate the index.

5. A Stock splits potentially introduce a downward bias in a price-weighted index. Large, successful firms splitting their stock price and, hence, lowering their representative weight in the index cause the downward bias. Value- and equal-weighted indexes are not affected by stock splits.

6. A An unweighted price series assumes that the investor makes and maintains an equal dollar investment in each stock in the index. Don't confuse this with a price-weighted index, which assumes that an investor invests in an equal number of shares of each stock.

7. B A price-weighted series is an arithmetic average of the current prices of a sample of securities. A price-weighted index assumes an investor purchases an equal number of shares of each stock represented in the index.

8. D The price volatility of bonds is always changing; the universe of bonds is much larger than that of stocks; and bond markets do not have continuous trade data. Choice D is the only true statement.

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The following is a review of the Securities Markets principles designed to address the learning outcome statements set forth by CFA Institute. This topic is also covered in:

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