Corporate Finance
M101929
Assignment4.docxDefine the following terms, using graphs or equations to illustrate your answers where feasible.
Risk in general; stand-alone risk; probability distribution and its relation to risk
Expected rate of return, ˆrr^
Continuous probability distribution
Standard deviation, σ; variance, σ2σ2
Risk aversion; realized rate of return, ¯rr¯
Risk premium for Stock i, RPiRPi;
market risk premium, RPMRPM
Capital Asset Pricing Model (CAPM)
Expected return on a portfolio, ˆrpr^p; market portfolio
Correlation as a concept; correlation coefficient, ρ
Market risk; diversifiable risk; relevant risk
Beta coefficient, b; average stock’s beta
Security Market Line (SML); SML equation
Slope of SML and its relationship to risk aversion
Equilibrium; Efficient Markets Hypothesis (EMH); three forms of EMH
Fama-French three-factor model
Behavioral finance; herding; anchoring
(6-2) The probability distribution of a less risky return is more peaked than that of a riskier return. What shape would the probability distribution have for (a) completely certain returns and (b) completely uncertain returns?
(6-7)Required Rate of Return Suppose rRF=5%rRF=5%, rM=10%rM=10%, and rA=12%rA=12%. Calculate Stock A’s beta. If Stock A’s beta were 2.0,
then what would be A’s new required rate of return?
6-10). Portfolio Required Return Suppose you manage a $4 million fund that consists of four stocks with the following investments: If the market’s required rate of return is 14% and the risk-free rate is 6%, what is the fund’s required rate of return?
|
Stock |
Investement |
beta |
|
A |
400000 |
1.50 |
|
B |
600000 |
-0.50 |
|
C |
1000000 |
1.25 |
|
D |
2000000 |
0.75 |
9-2 How can the WACC be both an average cost and a marginal cost?
(9-2). After-Tax Cost of Debt LL Incorporated’s currently outstanding 11% coupon bonds have a yield to maturity of 8%. LL believes it could issue new bonds at par that would provide a similar yield to maturity. If its marginal tax rate is 35%, what is LL’s after-tax cost of debt?
((9-4). Cost of Preferred Stock with Flotation Costs Burnwood Tech plans to issue some $60 par preferred stock with a 6% dividend. A similar stock is selling on the market for $70. Burnwood must pay flotation costs of 5% of the issue price. What is the cost of the preferred stock?
(9-5). Cost of Equity: Dividend Growth Summerdahl Resort’s common stock is currently trading at $36 a share. The stock is expected to pay a dividend of $3.00 a share at the end of the year (D1=$3.00)(D1=$3.00), and the dividend is expected to grow at a constant rate of 5% a year. What is its cost of common equity?
(9-6). Cost of Equity: CAPM Booher Book Stores has a beta of 0.8. The yield on a 3-month T-bill is 4%, and the yield on a 10-year T-bond is 6%. The market risk premium is 5.5%, and the return on an average stock in the market last year was 15%. What is the estimated cost of common equity using the CAPM?
(9-7). WACC Shi Import-Export’s balance sheet shows $300 million in debt, $50 million in preferred stock, and $250 million in total common equity. Shi’s tax rate is 40%, rd=6%rd=6%, rps=5.8%rps=5.8%, and rs=12%rs=12%. If Shi has a target capital structure of 30% debt, 5% preferred stock, and 65% common stock, what is its WACC?
Define the following terms, using graphs or equations to illustrate your answers where feasible.
Risk in general; stand
-
alone risk; probability distribution and its relation to risk
Expected rate of return, ˆrr^
Continuous probab
ility distribution
Standard deviation, σ; variance, σ2σ2
Risk aversion; realized rate of return, ―rr―
Risk premium for Stock i, RPiRPi;
market risk premium, RPMRPM
Capital Asset Pricing Model (CAPM)
Expected return on a portfolio, �rpr^p;
market portfolio
Correlation as a concept; correlation coefficient, ρ
Market risk; diversifiable risk; relevant risk
Beta coefficient, b; average stock’s beta
Security Market Line (SML); SML equation
Slope of SML and its relationship to risk aversion
Equilibrium; Efficient
Markets Hypothesis (EMH); three forms of EMH
Fama
-
French three
-
factor model
Behavioral finance; herding; anchoring
(6
-
2) The probability distribution o
f a less risky return is more peaked than that of a riskier
return. What shape would the probability distribution have for (a) completely certain returns and
(b) completely uncertain returns?
(
6
-
7)
Required Rate of Return Suppose rRF=5%rRF=5%, rM=10%rM=10%, and
rA=12%rA=12%. Calculate Stock A’s beta. If Stock A’s beta were 2.0,
then what would be A’s new required rate of return?
6
-
10). Portfolio Required Re
turn Suppose you manage a $4 million fund that consists of four
stocks with the following investments: If the market’s required rate of return is 14% and the risk
-
free rate is 6%, what is the fund’s required rate of return?
Define the following terms, using graphs or equations to illustrate your answers where feasible.
Risk in general; stand-alone risk; probability distribution and its relation to risk
Expected rate of return, ˆrr^
Continuous probability distribution
Standard deviation, σ; variance, σ2σ2
Risk aversion; realized rate of return, ¯rr¯
Risk premium for Stock i, RPiRPi;
market risk premium, RPMRPM
Capital Asset Pricing Model (CAPM)
Expected return on a portfolio, ˆrpr^p; market portfolio
Correlation as a concept; correlation coefficient, ρ
Market risk; diversifiable risk; relevant risk
Beta coefficient, b; average stock’s beta
Security Market Line (SML); SML equation
Slope of SML and its relationship to risk aversion
Equilibrium; Efficient Markets Hypothesis (EMH); three forms of EMH
Fama-French three-factor model
Behavioral finance; herding; anchoring
(6-2) The probability distribution of a less risky return is more peaked than that of a riskier
return. What shape would the probability distribution have for (a) completely certain returns and
(b) completely uncertain returns?
(6-7)Required Rate of Return Suppose rRF=5%rRF=5%, rM=10%rM=10%, and
rA=12%rA=12%. Calculate Stock A’s beta. If Stock A’s beta were 2.0,
then what would be A’s new required rate of return?
6-10). Portfolio Required Return Suppose you manage a $4 million fund that consists of four
stocks with the following investments: If the market’s required rate of return is 14% and the risk-
free rate is 6%, what is the fund’s required rate of return?
