HKSI Licensing Examination Paper 8 (Securities) — All Questions

A relatively high P/E ratio generally reflects:

• a.investors' expectations of stronger future earnings growth✓
• b.a guaranteed loss for shareholders
• c.an imminent dividend cut
• d.that the shares are actually bonds

A high P/E usually indicates that investors are willing to pay more per unit of current earnings because they expect earnings to grow strongly. Growth expectations are a key driver of the P/E multiple.

A share priced at HK$20 pays a total annual dividend of HK$0.80. The dividend yield is:

• a.8.0%
• b.4.0%✓
• c.2.5%
• d.0.4%

Dividend yield = dividend per share / price = HK$0.80 / HK$20 = 4.0%. The yield lets investors compare the income return of shares against other income-producing investments.

Shareholders' equity is HK$1,000 million and there are 200 million shares. Book value per share is:

• a.HK$2.00
• b.HK$5.00✓
• c.HK$20.00
• d.HK$0.20

Book value per share = shareholders' equity / number of shares = HK$1,000m / 200m = HK$5.00. It represents the accounting net worth attributable to each share and is the denominator of the P/B ratio.

Return on equity can be decomposed (the DuPont analysis) into net profit margin, asset turnover and:

• a.financial leverage (the equity multiplier)✓
• b.the P/E ratio
• c.the bond's coupon rate
• d.the dividend yield

The DuPont framework breaks ROE into net margin (profitability), asset turnover (efficiency) and financial leverage (the equity multiplier). This shows the different levers that drive a company's return on equity.

Working capital is calculated as:

• a.revenue minus cost of sales
• b.net income minus dividends
• c.total assets minus total equity
• d.current assets minus current liabilities✓

Working capital = current assets - current liabilities. It measures the short-term resources available to fund day-to-day operations; positive working capital indicates the firm can meet near-term obligations.

A current ratio comfortably above 1.0 suggests a company:

• a.has enough current assets to cover its short-term liabilities✓
• b.is insolvent
• c.pays no corporate tax
• d.has no long-term debt

A current ratio above 1.0 means current assets exceed current liabilities, indicating adequate short-term liquidity to meet obligations as they fall due. It is a basic measure of a firm's short-term financial health.

A company has a market capitalisation of HK$800 million, debt of HK$200 million and cash of HK$50 million. Its enterprise value (EV) is:

• a.HK$950 million✓
• b.HK$550 million
• c.HK$1,050 million
• d.HK$800 million

EV = market capitalisation + debt - cash = HK$800m + HK$200m - HK$50m = HK$950m. Enterprise value estimates the total cost to acquire the whole business, netting off its cash.

If a company keeps its dividend unchanged but its share price falls, the dividend yield will:

• a.rise✓
• b.become negative
• c.stay the same
• d.fall

Dividend yield = dividend / price. With the dividend fixed and the price falling, the ratio increases, so the yield rises. Yield moves inversely to price for a given dividend.

The goal of fundamental analysis is to:

• a.guarantee short-term trading profits
• b.set the government's stamp-duty rate
• c.chart past prices and trading volumes only
• d.estimate a security's intrinsic value from financial and economic data✓

Fundamental analysis seeks a security's intrinsic (fair) value by examining financial statements, ratios, industry conditions and the wider economy, then comparing that value with the market price. It contrasts with technical analysis, which studies price action.

Using the dividend discount (Gordon growth) model, a share expected to pay a dividend of HK$2 next year, with a required return of 10% and constant growth of 4%, has an intrinsic value of:

• a.HK$33.33✓
• b.HK$14.29
• c.HK$50.00
• d.HK$20.00

Gordon model value = D1 / (r - g) = HK$2 / (0.10 - 0.04) = HK$2 / 0.06 = HK$33.33. The model values a share as the next dividend divided by the required return minus the constant growth rate.

A share will pay a HK$3 dividend next year, growing at 6% a year, with a required return of 12%. Its Gordon-model value is:

• a.HK$36.00
• b.HK$25.00
• c.HK$50.00✓
• d.HK$18.00

Value = D1 / (r - g) = HK$3 / (0.12 - 0.06) = HK$3 / 0.06 = HK$50.00. A smaller gap between the required return and the growth rate produces a higher valuation.

A discounted cash flow (DCF) valuation estimates value as:

• a.the total of all dividends ever paid
• b.the latest quoted share price
• c.the historical accounting cost of the company's assets as recorded on its most recent balance sheet
• d.the present value of expected future cash flows, discounted at a required rate of return✓

A DCF values an asset as the sum of its projected future cash flows, each discounted back to today at a rate reflecting their risk and the time value of money. It is a core intrinsic-value technique.

In a DCF, raising the discount rate applied to future cash flows will:

• a.raise the valuation
• b.raise the future cash flows
• c.lower the present value and hence the valuation✓
• d.leave the valuation unchanged

A higher discount rate reduces the present value of each future cash flow, so the overall DCF valuation falls. Discount rate and present value move inversely, reflecting the greater risk or opportunity cost.

An equity's required rate of return generally rises when:

• a.the share undergoes a stock split
• b.the board-lot size changes
• c.its dividend is cut to zero
• d.its risk, and the risk premium demanded by investors, increases✓

The required return compensates investors for risk, so as perceived risk (and the demanded risk premium) increases, so does the required return. A higher required return, all else equal, lowers a share's intrinsic value.

If, in the earlier example (dividend HK$2 next year, required return 10%), the constant growth rate is instead 5%, the Gordon-model value becomes:

• a.HK$66.67
• b.HK$20.00
• c.HK$33.33
• d.HK$40.00✓

Value = D1 / (r - g) = HK$2 / (0.10 - 0.05) = HK$2 / 0.05 = HK$40.00. Raising the growth assumption narrows the (r - g) denominator and increases the valuation from HK$33.33 to HK$40.00.

In a multi-stage DCF, the 'terminal value' represents:

• a.the total cost of the company's annual external audit over the whole explicit forecast period
• b.the dividend paid in the current year
• c.the stamp duty on the shares
• d.the value of the cash flows expected beyond the explicit forecast period✓

Terminal value captures the present value of all cash flows arising after the detailed forecast horizon, often estimated with a perpetuity growth formula. It is typically a large part of a DCF valuation.

A stock's last five daily closing prices are HK$20, HK$22, HK$24, HK$26 and HK$28. Its 5-day simple moving average is:

• a.HK$26
• b.HK$22
• c.HK$28
• d.HK$24✓

5-day SMA = (20 + 22 + 24 + 26 + 28) / 5 = 120 / 5 = HK$24. A simple moving average is the arithmetic mean of the closing prices over the chosen number of periods.

A moving average is used mainly to:

• a.guarantee future prices
• b.measure a bond's duration
• c.smooth out short-term fluctuations and highlight the underlying trend✓
• d.compute the company's dividend

A moving average averages recent prices to filter out short-term noise, making the prevailing trend easier to see. Crossovers of moving averages are also used as trend signals in technical analysis.

A 'golden cross', a bullish technical signal, occurs when:

• a.trading volume falls to zero
• b.the RSI reaches exactly 50
• c.the price falls sharply below a well-established support level on unusually heavy trading volume
• d.a shorter-term moving average crosses above a longer-term moving average✓

A golden cross is formed when a shorter-term moving average rises above a longer-term one, suggesting upward momentum and a potentially bullish trend. The opposite crossover is the bearish 'death cross'.

A 'death cross' is generally read as bearish because it occurs when:

• a.a bond in the portfolio matured
• b.the dividend was just increased
• c.a shorter-term moving average crosses below a longer-term moving average✓
• d.the P/E ratio fell

A death cross forms when a shorter-term moving average falls below a longer-term one, signalling weakening momentum and a possible downtrend. It is the bearish counterpart of the golden cross.

In technical analysis, a 'support' level is a price at which:

• a.trading is suspended by exchange rule
• b.buying interest tends to halt a decline✓
• c.the company pays its dividend
• d.selling pressure usually halts a rise

Support is a price area where demand is strong enough to slow or stop a fall, as buyers step in. If support breaks, technicians often expect the decline to continue to the next support level.

A 'resistance' level in technical analysis is a price at which:

• a.selling pressure tends to halt a price rise✓
• b.the index rebalances its constituents
• c.stamp duty doubles
• d.buying interest halts a fall

Resistance is a price area where selling pressure tends to cap an advance, as sellers become active. A decisive move above resistance (a breakout) is often read as a bullish signal.

An uptrend is technically defined by a series of:

• a.higher highs and higher lows✓
• b.equal daily closing prices
• c.days with zero trading volume
• d.lower highs and lower lows

An uptrend is characterised by successively higher peaks (higher highs) and higher troughs (higher lows), showing that buyers remain in control. A sequence of lower highs and lower lows defines a downtrend.

A Relative Strength Index (RSI) reading above 70 is commonly taken to indicate a market that is:

• a.overbought✓
• b.fairly valued
• c.in liquidation
• d.oversold

An RSI above 70 traditionally flags an overbought condition, where the price may have risen too far too fast and could be due for a pullback. The RSI is a momentum oscillator ranging from 0 to 100.

An RSI reading below 30 is generally interpreted as:

• a.oversold✓
• b.overbought
• c.an imminent bond default
• d.a dividend signal

An RSI below 30 traditionally indicates an oversold condition, where selling may have been excessive and a rebound could follow. Together with the 70 level, it frames the RSI's overbought/oversold bands.

A 'head and shoulders' top pattern is usually regarded as:

• a.a dividend announcement
• b.a reversal pattern warning that an uptrend may be ending✓
• c.a bond yield curve
• d.a continuation pattern confirming the uptrend

A head and shoulders top is a classic reversal pattern: after an uptrend, three peaks (with the middle 'head' highest) and a break of the neckline suggest the trend is turning down. It is one of the best-known chart reversal formations.

Technical analysts often use trading volume to:

• a.set the coupon on a bond
• b.determine the dividend record date
• c.calculate earnings per share
• d.confirm the strength or conviction behind a price move✓

Rising volume accompanying a price move is taken as confirmation that the move has conviction, whereas a move on thin volume is viewed as less reliable. Volume analysis complements price-pattern study.

When a price decisively rises above a well-established resistance level on strong volume, technicians call this a:

• a.breakout, often read as bullish✓
• b.reverse split
• c.margin call
• d.dividend

A breakout occurs when the price pushes through a resistance level, and one confirmed on strong volume is often interpreted as a bullish signal of a new advance. Old resistance may then act as new support.

A key assumption of technical analysis is that:

• a.dividends and reported earnings are wholly irrelevant to a security's true intrinsic value
• b.market price action tends to repeat and already reflects known information✓
• c.only balance-sheet data matter
• d.interest rates never change

Technical analysis assumes that all relevant information is already reflected in price, that prices move in trends, and that historical patterns tend to repeat. This is why technicians study charts rather than financial statements.

A stock closed at HK$16, HK$18 and HK$20 over the last three days. Its 3-day simple moving average is:

• a.HK$54
• b.HK$16
• c.HK$18✓
• d.HK$20

3-day SMA = (16 + 18 + 20) / 3 = 54 / 3 = HK$18. The simple moving average is the mean of the closing prices over the selected number of days.

A moving average is described as a 'lagging' indicator because it:

• a.is based on past prices and reacts only after the price has moved✓
• b.predicts future prices with certainty
• c.leads the market by exactly one week
• d.ignores all past data

A moving average is computed from historical prices, so it follows price changes rather than anticipating them, which is why it is called a lagging indicator. It confirms trends after they have begun.

In an uptrend, an upward-sloping trendline is typically drawn:

• a.through the highs to act as resistance
• b.horizontally at the average price
• c.connecting successive higher lows, so it acts as support✓
• d.at the 200% retracement level

In an uptrend, the trendline is drawn under the price by joining the rising sequence of higher lows; it acts as a dynamic support line. A break below it warns that the uptrend may be weakening.

A bond with a 5% annual coupon (HK$5 per HK$100 of face value) trades at HK$80. Its current yield is:

• a.4.00%
• b.8.00%
• c.5.00%
• d.6.25%✓

Current yield = annual coupon / market price = HK$5 / HK$80 = 6.25%. Because the bond trades below par, its current yield exceeds the 5% coupon rate.

A bond paying an annual coupon of HK$6 per HK$100 of face value trades at HK$120. Its current yield is:

• a.7.2%
• b.5.0%✓
• c.6.0%
• d.20%

Current yield = annual coupon / market price = HK$6 / HK$120 = 5.0%. Because the bond trades above par, the current yield is below the 6% coupon rate.

There is an inverse relationship between a bond's price and its yield, so when market yields rise, bond prices:

• a.stay fixed
• b.equal the coupon
• c.fall✓
• d.rise

Bond prices and yields move in opposite directions: as market yields rise, existing fixed-coupon bonds become less attractive, so their prices fall until their yields match the new market level.

A bond trading above par (at a premium) has a coupon rate that is:

• a.always zero
• b.above its yield to maturity✓
• c.equal to the stamp duty
• d.below its yield to maturity

A premium bond's coupon is higher than its yield to maturity, because the investor will suffer a capital loss as the price falls to par at maturity, dragging the total yield below the coupon rate.

A bond's duration measures:

• a.the bond's credit rating
• b.the stamp duty payable on the bond
• c.the sensitivity of its price to changes in yield (and the weighted-average time to its cash flows)✓
• d.the time until only the next coupon

Duration gauges how much a bond's price will change for a given change in yield and can be seen as the weighted-average time to receive its cash flows. Longer duration means greater interest-rate sensitivity.

All else being equal, a bond with a longer time to maturity will generally have:

• a.a higher duration and greater price sensitivity to yield changes✓
• b.a permanently fixed price
• c.no coupon payments
• d.a lower duration and therefore noticeably less price sensitivity to any change in market yields

Longer-maturity bonds have higher duration, so their prices move more for a given change in yield. This is why long-dated bonds carry greater interest-rate risk than short-dated ones.

All else being equal, a bond with a higher coupon will have:

• a.a shorter duration than a comparable lower-coupon bond✓
• b.no yield
• c.a longer maturity
• d.a higher credit rating

A higher coupon returns more cash sooner, lowering the weighted-average time to receive cash flows, so duration is shorter. Higher-coupon bonds are therefore somewhat less sensitive to yield changes.

A bond has a modified duration of 6. If its yield rises by 1% (100 basis points), its price will fall by approximately:

• a.0.6%
• b.6%✓
• c.1%
• d.60%

The approximate price change equals minus modified duration times the yield change: -6 x 1% = -6%. Modified duration estimates the percentage price move for a 1% change in yield.

The duration of a 10-year zero-coupon bond is approximately:

• a.0 years
• b.10 years✓
• c.5 years
• d.1 year

A zero-coupon bond makes only one payment, at maturity, so its duration equals its time to maturity (about 10 years). This gives zero-coupon bonds the highest duration for a given maturity.

When a bond is bought between coupon dates, the buyer normally pays the seller:

• a.a cash dividend
• b.double the next coupon
• c.accrued interest for the days since the last coupon✓
• d.stamp duty on the coupon

The buyer compensates the seller for the interest earned but not yet paid since the last coupon date by paying accrued interest. The quoted 'clean' price plus accrued interest gives the 'dirty' (settlement) price.

The yield to maturity (YTM) of a bond is:

• a.the coupon divided by par value only
• b.the stamp duty payable on the bond
• c.the single discount rate that makes the present value of its cash flows equal its price, i.e. the return if held to maturity✓
• d.the bond's credit rating expressed as a percentage

The YTM is the internal rate of return that equates the present value of all a bond's future coupons and principal to its current price, assuming it is held to maturity. It is the most complete single measure of a bond's return.

When a bond trades exactly at par, its coupon rate, current yield and yield to maturity are:

• a.all zero
• b.all different from one another
• c.impossible to compare
• d.all equal✓

At par, there is no capital gain or loss to maturity, so the coupon rate, current yield and yield to maturity all coincide. Discounts push the YTM above the coupon, and premiums push it below.

A bond with a higher credit rating, all else being equal, will typically offer:

• a.no coupon at all
• b.a longer maturity by rule
• c.a higher yield to compensate for greater risk
• d.a lower yield, reflecting its lower default risk✓

Higher-rated bonds carry lower default risk, so investors accept a lower yield; lower-rated (riskier) bonds must pay a higher yield to attract buyers. This yield gap is the credit spread.

A bond paying a HK$4 annual coupon per HK$100 of face value trades at HK$50. Its current yield is:

• a.4%
• b.2%
• c.8%✓
• d.5%

Current yield = annual coupon / market price = HK$4 / HK$50 = 8%. The deep discount to par lifts the current yield well above the 4% coupon rate.

Interest-rate risk in a bond portfolio is greatest for:

• a.very short zero-duration instruments
• b.cash on deposit
• c.short-dated Treasury bills
• d.long-duration (long-dated) bonds✓

The longer a bond's duration, the more its price moves for a given change in yield, so long-dated bonds carry the most interest-rate risk. Short-dated and cash-like instruments have minimal price sensitivity.

A share has a P/E ratio of 16. Its earnings yield (the inverse of the P/E) is approximately:

• a.1.6%
• b.16%
• c.6.25%✓
• d.0.16%

Earnings yield = 1 / P/E = 1 / 16 = 6.25%. The earnings yield expresses earnings as a percentage of price and is useful for comparing equities with bond yields.

As a listed derivative warrant moves closer to its expiry date, with the underlying share price unchanged, the warrant's time value will generally:

• a.Be unaffected by the passage of time
• b.Stay exactly constant until expiry
• c.Decay towards zero✓
• d.Increase steadily

A warrant's value is intrinsic value plus time value. Time value reflects the remaining chance of finishing in-the-money and erodes ('time decay') as expiry approaches, reaching zero at expiry when only any intrinsic value remains.

A 'dim sum bond' is best described as:

• a.A US-dollar bond issued by the US Treasury
• b.A Hong Kong dollar time deposit placed with a licensed bank
• c.An offshore renminbi (RMB)-denominated bond issued in Hong Kong✓
• d.An equity warrant over a Mainland company's shares

Dim sum bonds are debt securities denominated in offshore renminbi (CNH) and issued outside Mainland China, principally in Hong Kong. They let issuers raise RMB funding and give investors RMB exposure without needing onshore market access.