Question

Question 5

Aset P has a beta of 1.2. The risk-free rate of return is 2%, while the return on the S&P 500 is 8%. Asset P's required rate of return is:

Question 6

A corporate bond is sold for $1,000 (par value) with a 5% coupon. Shortly thereafter interest rates in the economy (the nominal rate of interest) increases to 9% due to inflation worries. Given this scenario (all other things being equal), which of the following bond valuations for this bond in the secondary market would most likely happen: $1,000; $1180, $2,196, nothing

Question 7

Considering the CAPM, which of the following is most useful: 90-day T-Bill, Prime rate, company net income, or depreciation from the balance sheet?

Question 8

BOND VALUATION - Ch 6 and pages OM 11-14: In 2014 Carnival Cruise Lines decided to sell some new bonds (something about fixing a big ship). They sold the bonds for $1,000 (face value) with a 20 year maturity and an 7% coupon. Two years have passed. Interest rates on similar bonds have declined to 4%. If an owner attempts to sell her/his Carnival bond bought for $1,000 in 2014, what should they expect to receive for it in the

secondary market?

Answer 1

Q5: Asset P’s required return = Risk free rate+ Beta*(Market return-Risk free rate)

= 2%+1.2*(8%-2%)

= 9.2%

Q6: None of the options

None of the options is right. The bond price will decline with an increase in interest rate. This is because the demand for bonds will decrease since the coupon is lesser than the interest rate.

Q7: 90-day T-Bill,

This represents the Risk free rate which is used for calculating the required return as per CAPM.

Required return = Risk free rate+ Beta*(Market return-Risk free rate)

Q8: Price of the bond = Coupon*(1-1/(1+r)^n)/r + FV/(1+r)^n

= 7%*1000*(1-1/(1+4%)^18)/4%+1000/(1+4%)^18

= $1379.78