3. You have $1 million in cash and are considering investment in bank deposits or a house.

Deposits at the bank earn 5% pa and rental yields on houses also earn 5% pa.

Assume that:

-Both bank interest rates and rental yields are not expected to change in the future.

-House rents and prices are expected to remain constant in the future.

-Bank deposit investments and house investments have the same risk.

Then unexpectedly, the central bank decreases interest rates by 1 percentage point. Banks decrease their deposit rate to 4% pa. House rents remain unchanged.

What do you expect to happen to house prices as soon as the news is released?

Select one:

a. Remain unchanged.

b. Rise by 1%.

c. Fall by 1%.

d. Rise by 25%.

e. Fall by 25%.

4.A fairly priced unlevered firm plans to pay a dividend of $3 next year (t=1) which is expected to grow by -2% pa (note the negative sign) every year after that. The firm's required return on equity is 4% pa. The firm can be valued using the dividend discount model.

The firm is thinking about decreasing its future dividend payments by 15% to finance more zero-NPV research and development projects which are expected to return 4% pa, and have the same risk as the existing projects. Therefore, next year's dividend will be $2.55.

What will be the stock's new annual capital return (proportional increase in price per year) if the change in payout policy goes ahead? Assume that payout policy is irrelevant to firm value and that all rates are effective annual rates. The new capital return will be:

Select one:

a. -1.7% pa

b. -1.144% pa

c. -1.1% pa

d. -0.935% pa

e. 0.6% pa