Question

4. Calculate the variance of the following returns.

Year Return

1 -0.20

2 0.04

3   -0.14

4   0.25

5 0.14

Enter the answer with 6 decimals, e.g. 0.123456.

5. A stock has an expected return of 0.10, its beta is 0.95, and the expected return on the market is 0.05. What must the risk-free rate be? (Hint: Use CAPM) Enter the answer in 4 decimals e.g. 0.0123.

1. The Down and Out Co. just issued a dividend of $1.17 per share on its common stock. The company is expected to maintain a constant 0.05 growth rate in its dividends indefinit ely. If the stock sells for $27.71 a share, what is the company's cost of equity? Enter the answer with 4 decimals (e.g. 0.1234)

2. The Up and Coming Corporation's common stock has a beta of 0.74. If the risk-free rate is 0.04 and the expected return on the market is 0.07, what is the company's cost of equity capital? Enter the answer with 4 decimals (e.g. 0.1234).

3. Holdup Bank has an issue of preferred stock with a $0.52 stated dividend that just sold for $47.38 per share. What is the bank's cost of preferred stock?

Enter the answer with 4 decimals (e.g. 0.1234).

Answer 1

1). Re = [{D0 x (1 + g)} / P0] + g

= [{$1.17 x 1.05} / $27.71] + 0.05 = 0.0443 + 0.05 = 0.0943

2). Re = Rf + Beta[E(Rm) - Rf]

= 0.04 + 0.74[0.07 - 0.04]

= 0.04 + 0.0222 = 0.0622

3). Kp = Dividend / Stock Price

= $0.52 / $47.38 = 0.0110

4). E(Ri) = Ri/n

= [-0.20+0.04-0.14+0.25+0.14]/5 = 0.09/5 = 0.018

Variance =  [E(Ri) - Ri]²/(n - 1)

= [(0.018 - (-0.20))² + (0.018 - 0.04)² + (0.018 - (-0.14))² + (0.018 - 0.25)² +

(0.018 - 0.14)²] /(5-1)

= [0.047524 + 0.000484 + 0.024964 + 0.053824 + 0.014884] / 4 = 0.14168/4 = 0.03542