Norma has one share of stock and one bond. The total value of the two securities

Question

Norma has one share of stock and one bond. The total value of the two securities is 1,348.26 dollars. The stock pays annual dividends. The next dividend is expected to be 4.55 dollars and paid in one year. In two years, the dividend is expected to be 7.4 dollars and the stock is expected to be priced at 125.69 dollars. The stock has an expected return of 15.37 percent per year. The bond has a coupon rate of 10.56 percent and a face value of 1,000 dollars; pays semi-annual coupons with the next coupon expected in 6 months; and matures in 17 years. What is the YTM of the bond? Answer as a rate in decimal format so that 12.34% would be entered as .1234 and 0.98% would be entered as .0098.

Explanation / Answer

Stock dividend details Year 1 Year 2 Dividend                      4.55                 7.40 Expected stock price at year 2 end            125.69 Total Expected Cash flow                      4.55            133.09 PV factor @Expected return 15.37%                    0.867              0.751 PV of Casj flows from stock                      3.94              99.99 Total of PV of cash flows   $             103.93 Stock price today = $             103.93 Total price of two securities $          1,348.26 Price of the Bond   $          1,244.33 YTM Formula= [Annual Interest+(Par Value-Market Value)/Years to Maturity]/(Par value+Market Price*2)/3   Given :   Bond Par Value                    1,000 Market Price of Bond                1,244.33 Years to Maturity                          17 Annual Interest @10.56%=                  105.60 YTM =[105.6+(1000-1244.33)/17]/(1000+1244.33*2)/3 YTM=7.9% approximately So YTM is 0.079

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