Text Problem

ANSWER KEY

Fill in the Table:

1. CALC: n = 8 x 2 = 16 r = 10.2% / 2 = 5.1% PV = ? PMT = 8.0% x 1000 / 2 = $40 FV = $1000

PV = -$881.63

2. CALC: n = 7 x 2 = 14 r = 8.0% / 2 = 4.0% PV = ? PMT = 9.0% x 1000 / 2 = $45 FV = $1000

PV = -$1,052.82

3. CALC: n = 15 x 2 = 30 r = 9.5% / 2 = 4.75% PV = ? PMT = 7.5% x 1000 / 2 = $37.50

FV = $1000 PV = -$841.80

4. CALC: n = 20 x 2 = 40 r = ? PV = -$1075 PMT = 8.5% x 1000 / 2 = $42.50 FV = $1000

r = 3.88%

YTM = 3.88% x 2 = 7.76%

5. CALC: n = ? r = 7.0% / 2 = 3.5% PV = -$963.80 PMT = 6.49% x 1000 / 2 = $32.45

FV = $1000

n = 20 semiannual periods

n = 20 / 2 = 10 years

6. CALC: n = 13 x 2 = 26 r = 7.8% / 2 = 3.9% PV = -$1140.60 PMT = ? FV = $1000

PMT = $47.70

Coupon Rate = 47.70 x 2 / 1000 = 9.54%

Bond Valuation

General Electric made a coupon payment yesterday on its 6.75% bonds that mature in 8.5 years. If the required return on these bonds is 8% APR, what should be the market price of these bonds?

CALC: n = 17 r = 8.0% / 2 = 4.0% PV =? PMT = 6.75% x 1000 / 2 = $33.75 FV = $1000

PV = -$923.96

Required return for a preferred stock

Sony $4.50 preferred is selling for $65.50. The preferred dividend is nongrowing. What is the required return on Sony preferred stock?

PVPerpetuity = D / r

r = D / PV

r = $4.50 / $65.50 = 6.87%

Stock valuation

Let’s say the Mill Due Corporation is expected to pay a dividend of $5.00 per year on its common stock forever into the future. It has no growth prospects whatsoever. If the required return on Mill Due’s common stock is 14%, what is a share worth?

P0 = D1 / (r - g)

P0 = $5.00 / (0.14 - 0.00) = $35.71

Default risk

(Default risk) You buy a very risky bond that promises an 8.8% coupon and return of the $1,000 principal in 10 years. You pay only $500 for the bond.

• a) You receive the coupon payments for two years and the bond defaults. After liquidating the firm, the bondholders receive a distribution of $150...