Financial Management Assignment

Chapters 6 and 7

Question 6-4

If investors’ aversion to risk increased, would the risk premium on a high-beta stock increase by more or less than that on a low-beta stock? Explain.

Question 6-5

If a company’s beta were to double, would its expected return double?

Question 7-3

A bond that pays interest forever and has no maturity date is a perpetual bond, also called a perpetuity or a consol. In what respect is a perpetual bond similar to (1) a no-growth common stock and (2) a share of preferred stock?

Problem 6-3

Suppose that the risk-free rate is 5% and that the market risk premium is 7%. What is the required return on (1) the market, (2) a stock with a beta of 1.0, and (3) a stock with a beta of 1.7? Assume that the risk-free rate is 5% and that the market risk premium is 7%.

Problem 6-5

A stock’s return has the following distribution:

Demand for the Probability of This Rate of Return if This

Company’s Products Demand Occurring Demand Occurs (%)_

Weak 0.1 -50%

Below average 0.2 -5

Average 0.4 16

Above average 0.2 25

Strong 0.1 60

1.0

Calculate the stock’s expected return and standard deviation.

Problem 7-4

Nick’s Enchiladas Incorporated has preferred stock outstanding that pays a dividend of $5 at the end of each year. The preferred sells for $50 a share. What is the stock’s required rate of return (assume the market is in equilibrium with the required return equal to the expected return)?

Problem 7-9

Crisp Cookware’s common stock is expected to pay a dividend of $3 a share at the end of this year (D1 = $3.00); its beta is 0.8; the risk-free rate is 5.2%; and the market risk premium is 6%. The dividend is expected to grow at some constant rate g, and the stock currently sells at $40 a share. Assuming the market is equilibrium, what does the market believe will be the stock’s price at the end of 3 years? (i.e., what is ^P3)?