1. A risk-free project requires an upfront cost of $1 million and generates annual cash flow of $90,000 in perpetuity.Interest rates will either be 10% or 5% in one year and remain there forever with 90% chance of dropping to 5%.The one-year risk-free rate interest rate is 8% and today's rate on a risk-free perpetual bond is 5.4%.The rate on an equivalent perpetual bond that is repayable at any time is 9%.Should you invest in this project today, or wait and see if rates drop and then invest?Clearly prove and state why.
2. In your view, is option an investment or a gamble?Critically substantiate your arguments.Why an option sometimes is said to be a "wasting asset"?
3. Do you think shareholders from target companies enjoy an average gain when acquired, while acquiring shareholders do not benefit anything?Why?Are there any common flaws in the negotiation for a merger?Can you comment on the value creation process in an acquisition?
4. Consider two calls with the same time to expiration that are written on the same underlying stock.Call One trades for $7 with a strike price of $100.Call Two has an exercise price of $95.What is the maximum price that Call Two can have?Use the potential arbitrage profits to critically explain your answer.