Please allow at least 30 minutes within your exam time to upload your work. Once you have completed the assessment do not leave it to the last minute to upload.

BE300-4-FY/5

UNIVERSITY OF ESSEX

1ST YEAR EXAMINATIONS 2020

QUANTITATIVE METHODS AND FINANCE

Time allowed: 24 hours

Time to spend on your assessment: 2 hours

Maximum word count for assessment: 2000 words

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Calculator – Casio FX-83GT PLUS/X or Casio FX-85GT PLUS/X only

The paper consists of 4 questions.

Candidates must answer 2 questions: 1 from Section A and 1 from Section B.

All questions carry equal weight.

An equation sheet is provided on page 6.

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SECTION A

Answer ONE question from Section A

QUESTION ONE (COMPULSORY)

a) Assume that a bond will make payments every six months as shown on the following timeline:

i) What is the maturity of the bond (in years)?

(8 marks)

ii) What is the coupon rate (in percent)?

(10 marks)

iii) What is the face value?

(7 marks)

b) Suppose that Starbucks Corporation (SBUX) issued a two-year bond with a face value of $1000 and an annual coupon rate of 6%. The yield to maturity on this bond when it was issued was 5%.

i) What was the price of this bond when it was issued?

(10 marks)

ii) Does this bond trade at a discount, at par, or at a premium?

(5 marks)

iii) Assuming the yield to maturity remains constant, what is the price of the bond immediately before it makes its first coupon payment?

(10 marks)

[TOTAL 50 MARKS]

END OF SECTION A

SECTION B

Answer ONE question from Section B

QUESTION TWO

a) Define the term investment. Provide an example of (i) securities investment, (ii) short-term investment, and (iii) long-term investment.

(10 marks)

b) Assume that you buy 2 shares of Facebook Inc. at $220 per share, putting up a 50% margin.

i) How much equity funds do you need to provide to make this margin transaction? What is the borrowed amount in this transaction?

(6 marks)

ii) If the stock price falls to $200 per share, what is your new margin position?

(6 marks)

iii) What is your rate of return (return on equity) in (ii)? What would your rate of return in (ii) be if the transaction was without margin (100% equity)?

(12 marks)

iv) Explain the main advantages and disadvantages of this margin transaction for you as investor.

(16 marks)

[TOTAL 50 MARKS]

QUESTION THREE

a) Define the terms return and risk. What is the relationship between an investment’s return and risk?

(16 marks)

b) Given the data below, find the average return and standard deviation of return for security A:

Year	Return on security A
2017	10%
2018	12%
2019	14%

(12 marks)

c) Assume that security B has an average return of 16% and a standard deviation of return of 3.3%, and that correlation between security A in (b) and security B is -1. Calculate the average return and standard deviation of return for a portfolio 50% invested in security A and 50% invested in security B. Comment on the result.

(22 marks)

[TOTAL 50 MARKS]

QUESTION FOUR

a) Danny is considering a stock purchase. The stock pays a constant annual dividend of $2.00 per share and is currently trading at $20. Danny’s required rate of return for this stock is 12%. Should he buy this stock?

(15 marks)

b) Procter and Gamble (PG) paid an annual dividend of $1.72 in 2009. Danny expected P&G to increase its dividends by 8% per year for the next five years (through 2014), and thereafter by 3% per year. If the required return on P&G’s stock was 8% per year, use the dividend valuation model to estimate its share price at the end of 2009.

(25 marks)

c) Danny expects that P&G’s competitor, Estée Lauder (EL) will pay a dividend of $2.72 per share at the end of this year and $2.99 per share next year, and its stock price is expected to grow to $53.72 in two years. If the required return for Estée Lauder’s stock is 11.1%, what price would he be willing to pay for a share of Estée Lauder’s stock today, if he planned to hold the stock for two years?

(10 marks)

[TOTAL 50 MARKS]

END OF SECTION B

END OF QUESTION PAPER

Equation Sheet