Question $1$

$($A$)$ Real and Nominal Rate of Interests

The reason why the money market uses the nominal interest rate is that, by definition, the nominal interest rate includes the rate of inflation. Put another way, the opportunity cost of holding cash does and should include the real return that could be earned by depositing cash, and at the same time the erosion of purchasing power due to inflation. $($studysmarter$,$ UK$,2024)$

Required

$($I$)$ In light of the above, critically examine the Real, Market and Nominal rates of interest, highlighting the differences between real and market rate of interest.

$($B$)$ You find that Treasury index$-$linked stock maturing in $2027$ offers a redemption yield, adjustable for inflation, of $0\mathrm{.}25\%.$ Treasury $1\mathrm{.}75\%$ stock, which also matures in $2027$ but with cash flows NOT adjustable for inflation, offers a redemption yield of $3\mathrm{.}25\%.$ What is the inflation rate expected, by investors, to prevail between now and $2030?$

Question $2$

Efficient Market Hypothesis

According to this hypothesis, an efficient market will not provide any profitable opportunity for trading. Thus, attaining a superior return consistently in such a condition is impossible. Time is an essential factor within which the market spreads information. This time gap provides traders with the opportunity to exploit the inefficiency. Economist Eugene Fama gave the efficient market hypothesis in the $1960$s$.$

Required

$($i$)$ Discuss the three forms of the Efficient Market Hypothesis with good literature evidence and evaluate its relevancy in the current market scenario.

$($ii$)$ If the capital markets are efficient, this has implications for corporate finance. Discuss the implications for the financial manager of a large profit$-$making entity that is trying to maximize the wealth of shareholders.

Question $3$

$($A$)$ Cornerstone Corporation is a large construction company in Boston, Massachusetts. Their income statement for last year indicated a net income of $$12,500,000,$ and the corporation has $1,100,000$ shares of common stock outstanding. The current stock price of Cornerstone Corporation on the Boston stock exchange is $$13\mathrm{.}75$ per share. It is looking to expand its operation to the neighbouring cities and will be issuing $400,000$ extra shares and expects to have a net income of $$16,000,000$ by the end of the current year.

Required

$($a$)$ Assuming the company$$s price to earnings ratio remains at its current level, what will be the company$$s stock price one year from now?

$($b$)$ The P$/$E ratio is a very common method used by investors to get a quick calculation of the market$$s perception of a company. Evaluate the formula used to calculate the P$/$E ratio focusing on the limitations of this method of valuation?

$($B$)$ Consider company ABC, ABC paid a $3$USD dividend in $2023$ and at the end of $2023$ its share price was $50$USD while its book value was only $35$USD per share. ABC$$s earnings per share for $2017$ is $25$USD and the replacement cost of its assets were $$25$ million.

Required

$($a$)$ Calculate the dividend yield, price$-$to$-$book ratio and price$-$to$-$earnings ratio.

$($b$)$ Interpret the results of the price$-$to$-$book ratio and price$-$to$-$earnings ratio

Question $4$

Maxwell Company just paid an annual dividend of $$1\mathrm{.}2$ per share. Its dividend is expected to triple for the next four years $($D$1$ through D$4),$ after which it will grow at a more modest pace of $2\%$ per year. The required return is $15\%,$

Required

$($a$)$ Calculate the current price

$($b$)$ Critically present and discuss the three basic stock valuation models $($Zero growth model, constant growth model and variable growth model$)$ by giving necessary equations.