bao3403 ExamsolS2 20081.docVIP

Investment Portfolio Management BAO 3403 Question 41 Part A (i) Intrinsic value = PV(dividends) + PV(future price) V = (D1 * PVIF1) + (D2 * PVIF2)………. Yr 1 12% Yr 2 10% Yr 3 10% Year Dividend PVIF 11% P.V 0 $3.50 - - 1 $3.92 0.901 3.53 2 $4.31 0.812 3.50 3 $4.74 0.731 3.46 PV of dividends $10.49 5% growth YR 4 and beyond. P3 = D4 = $4.74(1.05) =$4.98 = $83 k-g .11 - .05 0.06 PV = $83 x PVIF 11%,3 = $83 x 0.731 = $60.67 Intrinsic Value = $10.49 + $60.67 = $71.17 Do not purchase the share at $75 (overvalued) Part (ii) g = 0 after Year 3 P = D4 =$4.74 = $43.09 K – g 0.11 – 0 PV = $43.09 X PVIF 11%,3 = $43.09 x 0.731 = $31.50 Value = $10.49 + $31.50 = $41.99 ($42) Question 41 Part B G = 0.15 x (1-0.4) = 0.09 (9%) P/E = 0.4/0.15-0.09 = 6.67 k = 6% + 1.5(12-6) = 15% EPS = 0.15 x $60 = $9 Share Price = $9 x 6.67 = $60. Part C $2.00/$20 = 0.10 or 10% Part D Decrease the P/E ratio Decrease the P/E ratio Increase the P/E ratio Increase the P/E ratio Question 42 BP = (I x PVIFA) + (FV x PVIF) = ($40 x PVIFA 3%,4) + ($1000 x PVIFA 3%,4) = $40 x 3.717 + $1000 x 0.888 = $148.68 + $888 = $1036.68 The market price and face value differ because the required yield is lower than the coupon rate (discount bond). Yield 6%/2 = 3% Period Annual cash flow PVIF 3% Present Value Div Market Value Time weighed cash flow 0.5 40 .971 38.84 0.0375 0.0188 1 40 .943 37.72 0.0364 0.0364 1.5 40 .915 36.60 0.0353 0.0529 2 1040 .888 923.52 0.8908 1.7816 $1036.68 1.000 1.8897 Alternatively: [(38.84x0.5)+ (37.72x1) + (36.60x1.5) + (923.52x2)] / 1036.68 (19.42 + 37.72 + 54.9 + 1847.04) / 1036.68 1959.08/1036.68 = 1.8897 years Duration in years = 1.89 years Modified Duration 1.89/(1 + 0.06/2) = 1.83 years Percentage change -1 x modified duration x change interest rates = -1.83 x 2.0 = - 3.66% decrease in the bond’s price (iv) YTM = $80 + [(1000-940)/2]/(1000+940)/2 YTM = $80 + $30 / $970 YTM = $110