42. Fill the missing number in Cell E4 A. $941.13 B. $980.12 C.$981.13 D. $986.54 E. $1,005.41 24-3. A speculator purchased the bond for $946.54 at issuance, pocketed in the first coupon at 1 and then immediately sold the bond at its actual market price, which was different from $963.33. He managed to earn higher than YTM for his 1-year holding period. What must be the YTM for the buyer who took over the bond from the speculator, assume this buyer holds the bond for the remaining 2 year till maturity? Select the most accurate answer. B. 3% 27. You analyze Samsung stock, find its beta 1.3, the expected market return 4% and the risk-free rate 1%7 According to CAPM, what is Samsung's expected return? A. 6.2% B.5.2% C.4.9% D. 3.9% 28. About CAPM, which of the following are CORRECT? (Select all that apply) A. CPAM says each individual security's risk premium is proportional to its individual beta. B. CPAM says that the reward-to-risk ratios of all stocks should be equal. C. Systematic risk is captured by betas. D. Unsystematic risk is captured by alphas. 29. About diversification and risk, which of the following are CORRECT? (Select all that apply) A. diversification can eliminate unsystematic risk. B.unsystematic risk is diversified away because the unsystematic risk of each individual stock can offset each other when many stocks are put together. C. market risk can be averaged out but cannot be removed or reduced through diversification D. A fully diversified portfolio means almost zero unsystematic risk. 30. About shortsale in the stock market, which of the following statements are CORRECT? (Select all that apply) A. Short sellers borrow securities and sell them immediately. B. Shortsales allow the information to get into the stock price. C. Shortselling is a lot riskier than regular 'buy and sell'. D. Short sellers face unlimited potential of profiting. Short Problems (show your calculations to earn credit) 1. IBM expects to pay an annual dividend of $3.9 in one year. The dividend is expected to grow by 3% per year. The required rate of return is 12%. What is the best estimate of the stock price in 5 years? 2. Brickhouse is expected to pay the following future dividends: D. $1.90. D. $2.10, D, to D, will grow at 5% annually for 20 years starting with D,-$2.50, then Do, and beyond will stay constant indefinitely at the level of D22- Draw a timeline of all cashflows. What is the current value of this stock at a required return of 10 percent? 3 Page Bob's is a retail chain of specialty hardware stores. The firm has 21.000 shares of stock outstanding that are Currently $63 per share in the market. Firm's Beta is 1 2. The risk-free rate is 1% and the market risk premium is Firm just paid an annual dividend of $2.00 per share. Dividend is expected to grow indefinitely at 5% annually. The firm also has 500 coupon bonds outstanding that have a face value of $1,000, a market price of $1,068, 6 years left to maturity and have a current YTM of 5.6%. The corporate tax rate is 35% 1) Find cost of debt. 2) Find cost of equity: both CAPM and Dividend Discount/Growth Model can work, but use CAPM here assuming CAPM is a more accurate method for this company. 3) Plug the appropriate return computed by CAPM into the DDM to assess if the current stock is under or over- valued? 4) Compare cost of debt and cost of equity you computed, which number is greater, why is it usually the case? 5) Find weight on debt and weight on equity, and eventually firm's WACC. 4. Bob's, the same firm, is considering expanding by building a new superstore. The superstore will require an initial investment of $12.3 million and is expected to produce cash inflows of $1.3 million annually over its 10-year life. The risks associated with the superstore are comparable to the risks of the firm's current operations. The initial investment will be depreciated on a straight-line basis over the life of the project. At the end of the 10 years, the firm expects to sell the superstore for $6.7 million. Find NPV. Should the firm accept or reject the superstore project and why? 5. Today, a Treasury bond dealer is analyzing a 2-VL 5% annually paying Treasury coupon security now trading at $1,012.30. He also observes the following treasury security information: 1-yr STRIPS trading at $970.87 (face value $1,000). 2-yr spot rate 4% 1) Based on the information, is the coupon bond fairly priced, underpriced, overpriced? Can the dealer earn arbitrage profit? 2) What should be the dealer's strategies to earn the profit? 41 Page Fixed Income Arbitrage is to find mispricing of treasury coupon bonds through system of linear equations where of equations > # of unknowns. Suppose there are only 3 treasury coupon bonds on the market today Bond A: 2-year 2% treasury coupon bond, trading at $937.0 Bond B: 2-year 3% treasury coupon bond, trading at $955.5 Bond C: 2-year 4.5% treasury coupon bond, trading at $974.0 All 3 treasury coupon bonds pay annual coupon. Let Po, and Po be the two unknowns, where Po, denotes the price today of a 1-year STRIPS, and Po. the price today of a 2-year STRIPS. Face value of STRIPS is $1. 1) Since each coupon bond is essentially a package of STRIPS. write the 3-equation 2 unknown system 2) Usually how many pairs of solutions can you solve for the system in (1) 3) Focusing on ONLY Bond A and Bond B, will this 2-equation 2 unknown system have solutions? Solve them if yes. 4) Suppose your solution in (3) are indeed the STRIPS prices today, what can you say about arbitrage profit in any of three coupon bonds, in which one(s), how much? 7. in your brokerage account, you decide to sell short 200 shares of Facebook stock, whose current price is $120. The account has initial margin requirement of 55%, and maintenance margin requirement of 35% 1) Initially, you put in some cash to just meet the initial margin requirement, what's the amount you put in? 2) One week later, FB stock price goes up 20%. Show that you are indeed getting a margin call. 3) You take no action on the margin call, then what will the broker do? Round your answer to integer number of shares. Set up a balance sheet chart each for 1), 2) and 3) to assist your answers. 8. Suppose CAPM holds true for the following two stocks, of which you collect the historical return and risk: Security Average (expected) monthly return Standard deviation of returns GOOG 2.0% 9.1% TIF 1.2% 10.2% 1) Complete the following statement: Higher risk-higher return principle more accurately means higher higher expected (average) return. 2) Then explain clearly if these two stocks are consistent with the principle or not. 3) Which stock must have a greater unsystematic risk, explain why? higher 5 Page