Investment Principles of Investment 3 — Questions and Answers
Question 1: What is liquidity in the context of investing?
- The total value of assets
- How quickly an asset can be converted to cash without large loss (Correct answer)
- The interest rate earned
- The amount of debt held
Correct answer: How quickly an asset can be converted to cash without large loss
Liquidity describes how easily an asset can be sold for cash near its fair value.
Question 2: Which investment vehicle pools money from many investors to buy a diversified basket of securities?
- Mutual fund (Correct answer)
- Single stock
- Savings account
- Treasury bond
Correct answer: Mutual fund
A mutual fund pools investor money to buy a professionally managed diversified portfolio.
Question 3: What does a dividend represent?
- A loan repayment
- A distribution of company profits to shareholders (Correct answer)
- A capital gain
- A management fee
Correct answer: A distribution of company profits to shareholders
A dividend is a portion of a company's earnings paid out to shareholders.
Question 4: Asset allocation refers to:
- Picking individual winning stocks
- Dividing investments among asset categories (Correct answer)
- Timing the market
- Avoiding all bonds
Correct answer: Dividing investments among asset categories
Asset allocation divides a portfolio among categories like stocks, bonds, and cash.
Question 5: A higher expected return is generally associated with:
- Lower risk
- Higher risk (Correct answer)
- No risk
- Guaranteed principal
Correct answer: Higher risk
The risk-return tradeoff means higher potential returns require accepting higher risk.
Question 6: What is an index fund designed to do?
- Beat the market through active picks
- Track the performance of a market index (Correct answer)
- Invest only in bonds
- Guarantee a fixed return
Correct answer: Track the performance of a market index
An index fund passively tracks a benchmark index like the S&P 500.
Question 7: Inflation erodes the value of investments by reducing:
- Nominal returns
- Purchasing power (Correct answer)
- Tax rates
- Trading volume
Correct answer: Purchasing power
Inflation reduces purchasing power, so real returns matter more than nominal returns.
Investment Principles of Investment 3
What is liquidity in the context of investing?