Question

1. Last year, Ahmed corp. issued 10-year 5% coupon bonds with face value of $500 each. If then market rate for Ahmed's risk class was 6%, how much money did the firm raise from each bond? 2. Wheeler bought 1000 of these bonds last year. This year interests drops by 2%. If Wheeler decides to sell these bonds now, how much money will he make in capital gain (or loss)? 3. Profit corp. analysts estimated the following probability distributions for its stocks. What is their expected rate of return? State of Economy Stock return Prob. of state occurring Recession Normal Boom .6 -5% 5% 15% .3 4. Turner corp. stocks had a required rate of return of 8%. Risk free rate was 3% and market risk premium was 6%. Analysts are expecting an increase in investor risk aversion increasing market risk premium by 2%. What will be the firm's new required rate of return? 5. Green corp's required rate of return is 12% and beta is 1.3. What is the required rate of return of Blue corp if its beta is.8 and market risk free return is 4.75%? 6. Mack Motors has a beta of 1.1. Real risk free return is 2%, expected inflation is 3%, and market risk premium if 4.7%. What is Mack's required rate of return? 7. Brook industries' stock return is 11.75% and beta is 1.23. What is the market return if risk free rate is 4.3%?

Answer 1

Answer to Question 1:

Face Value = $500

Annual Coupon Rate = 5%
Annual Coupon = 5% * $500
Annual Coupon = $25

Time to Maturity = 10 years
Annual Interest Rate = 6%

Issue Price = $25 * PVIFA(6%, 10) + $500 * PVIF(6%, 10)
Issue Price = $25 * (1 - (1/1.06)^10) / 0.06 + $500 / 1.06^10
Issue Price = $463.20

Answer to Question 2:

Face Value = $500

Annual Coupon Rate = 5%
Annual Coupon = 5% * $500
Annual Coupon = $25

Time to Maturity = 9 years
Annual Interest Rate = 4%

Selling Price = $25 * PVIFA(4%, 9) + $500 * PVIF(4%, 9)
Selling Price = $25 * (1 - (1/1.04)^9) / 0.04 + $500 / 1.04^9
Selling Price = $537.18

Capital Gain Yield = (Selling Price - Purchase Price) / Purchase Price
Capital Gain Yield = ($537.18 - $463.20) / $463.20
Capital Gain Yield = $73.98 / $463.20
Capital Gain Yield = 0.1597 or 15.97%