1) Suppose we are offered a 10-year, 11% annual coupon, $1000 face value bond at

Question

1) Suppose we are offered a 10-year, 11% annual coupon, $1000 face value bond at a price of $1200. What is the current yield?

2) Suppose we are offered a 10-year, 11% annual coupon, $1000 face value bond at a price of $1200. What rate of interest would you earn on your investment if you bought the bond and held it to maturity?

3) Investor buys a stock today assuming to resell it one year from now for $70. Dividend expected to be paid in one year is $10. If required rate of return is 25%, how much the investor is ready to pay for the stock today? That is, what is the PV of future cash flows generated by the investor?

4) Expected dividend in year 1 is $2 per share, the annual growth rate is 10%, required rate of return is 16,5%. How the stock can be valued?

5) The company’s ore reserves are being depleted, so its sales are falling, and costs are rising. As a result, the company’s earnings and dividends are declining at the constant rate of 4% per year. If D0=$5, r=15%, what is the value of the stock?

6) Company is planning to increase dividends on its stocks by 20% the next year, by 15% in subsequent year. After that dividends will grow at 5% rate annually. The last dividend paid was $1, required rate of return is 20%. What is the stock’s fair value?

Explanation / Answer

Details Amt $ 1 Bond price          1,200 Annual Interest payment@11%             110 Current yield = Annual Interest/Price = 9.17% 2 We have to find Yield to maturity Face value          1,000 Market price =          1,200 Annual interest @11%             110 Years to maturity =                10 YTM = [Annual Interest +( Face value-Market price)/years to maturity]/(Face value+Market Price )/2 = [110 +(1000-1200)/10]/1100 = 90/1100 =8.18% So YTM = 8.18% 3 Assuming the required return is only dividend return Required return rate 25% Expected dividend earning $     10.00 Stock purchase price now =10/25% = $     40.00 4 Given required return on stock =k= 16.50% Prev Dividend = D0 = 2 constant annual dividend growth rate = g 10% Share Value = d0(1+g)/(k-g) = 33.846 So Stock value = $     33.85 5 Given required return on stock =k= 15.00% Prev Dividend = D0 = 5 constant annual dividend growth rate = g -4% Share Value = d0(1+g)/(k-g) = 25.263 So Stock value = $     25.26 6 Given required return on stock =k= 20.00% Prev Dividend = D0 = 5 constant annual dividend growth rate = g Varying Share Value = d0(1+g)/(k-g) = Year 1 Year 2 Year 3 Dividend income 1.2 1.38 1.449 Value of share at the end of year 3 10.143 Total dividends and share value 1.2 1.38 11.592 Discounting factor @20% 0.833 0.694 0.579 PV of Cas flows 1.000 0.958 6.708 Total PV 8.667 Current share value $        8.67

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