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essentials managerial finance
Principles Of Managerial Finance 15th Global Edition Chad J. Zutter, Scott Smart - Solutions
=+a. What impact would a 10% decrease in the market return be expected to have on each asset’s return?
=+b. What impact would a 10% increase in the market return be expected to have on each asset’s return?
=+c. If you believed that the market return would decrease in the near future, which asset would you prefer? Why?
=+d. If you believed that the market return would increase in the near future, which asset would you prefer? Why?Personal Finance Problem
=+LG 5 P8–22 Betas and risk rankings Thomas Hill is considering three stocks—A, B, and C—for possible inclusions in his existing portfolio. Stock A has a beta of 0.75, stock B has a beta of 1.60, and stock C has a beta of -0.50.
=+a. Rank these stocks from the most risky to the least risky.
=+b. If the return on the market portfolio increased by 15%, what change would you expect in the return for each stock?
=+c. If the return on the market portfolio decreased by 10%, what change would you expect in the return for each stock?
=+d. If you believed the stock market was getting ready to experience a significant decline, which stock would you probably add to your portfolio? Why?
=+e. If you anticipated a major stock market rally, which stock would you add to your portfolio? Why?Personal Finance Problem
=+LG 5 P8–23 Portfolio betas Joe Moss is attempting to evaluate two possible portfolios, which consist of the same five assets held in different proportions. He is particularly interested in using beta to compare the risks of the portfolios, so he has gathered the data shown in the following
=+a. Calculate the betas for portfolios X and Y.
=+b. Compare the risks of these portfolios to the market as well as to each other.Which portfolio is riskier?
=+P8–24 Capital asset pricing model (CAPM) For each case shown in the following table, use the capital asset pricing model to find the required return.States Risk-free rate, RF Market return, rm Beta, B A 6% 22% 2.40 B 3 8 -0.50 C 10 15 0.90 D 12 18 1.00 E 5 10 0.70
=+P8–25 Beta coefficients and the capital asset pricing model Suppose you are wondering how much risk you must undertake to generate an acceptable return on your investment portfolio. The risk-free return currently is 3%. The return on the overall stock market is 12%. Use the CAPM to calculate
=+e. Assume you are risk averse. What is the highest return you can expect if you are unwilling to take more than an average risk?
=+LG 6 P8–26 Manipulating CAPM Use the basic equation for the capital asset pricing model(CAPM) to work each of the following situations.
=+a. Find the required return for an asset with a beta of 2.20 when the risk-free rate and market return are 5% and 32%, respectively.
=+b. Find the risk-free rate for a firm with a required return of 23.75% and a beta of 1.25 when the market return is 20%.
=+c. Find the market return for an asset with a required return of 18% and a beta of 1.20 when the risk-free rate is 8%.
=+d. Find the beta for an asset with a required return of 15% when the risk-free rate and market return are 3% and 15%, respectively.Personal Finance Problem
=+LG 1 LG 3 P8–27 Portfolio return and beta Jamie Peters invested $100,000 to set up the following portfolio 1 year ago.Asset Cost Beta at purchase Yearly income Value today A $20,000 0.80 $1,600 $20,000 B 35,000 0.95 1,400 36,000 C 30,000 1.50 — 34,500 D 15,000 1.25 375 16,500
=+a. Calculate the portfolio beta on the basis of the original cost figures.
=+b. Calculate the percentage return of each asset in the portfolio for the year.
=+c. Calculate the percentage return of the portfolio on the basis of original cost, using income and gains during the year.
=+d. At the time Jamie made his investments, investors were estimating that the market return for the coming year would be 10%. The estimate of the risk-free rate of return averaged 4% for the coming year. Calculate an expected rate of return for each stock on the basis of its beta and the
=+e. On the basis of the actual results, explain how each stock in the portfolio performed relative to those CAPM-generated expectations of performance. What factors could explain these differences?
=+LG 6 P8–28 Security market line (SML) Assume that the risk-free rate, RF, is currently 9% and that the market return, rm, is currently 13%.
=+a. Draw the security market line (SML) on a set of “nondiversifiable risk (x-axis)–required return (y-axis)” axes.
=+b. Calculate and label the market risk premium on the axes in part a.
=+c. Given the previous data, calculate the required return on asset A having a beta of 0.80 and asset B having a beta of 1.30.
=+d. Draw in the betas and required returns from part c for assets A and B on the axes in parta. Label the risk premium associated with each asset, and discuss them.
=+LG 6 P8–29 Shifts in the security market line Assume that the risk-free rate, RF, is currently 8%;the market return, rm, is 12%; and asset A has a beta, bA, of 1.10.
=+a. Draw the security market line (SML) on a set of “nondiversifiable risk (x-axis)–required return (y-axis)” axes.
=+b. Use the CAPM to calculate the required return, rA, on asset A, and depict asset A’s beta and required return on the SML drawn in part a.
=+c. Assume that as a result of recent economic events, inflationary expectations have declined by 2%, lowering RF and rm to 6% and 10%, respectively. Draw the new SML on the axes in parta, and calculate and show the new required return for asset A.
=+d. Assume that as a result of recent events, investors have become more risk averse, causing the market return to rise by 1%, to 13%. Ignoring the shift in part c, draw the new SML on the same set of axes that you used before, and calculate and show the new required return for asset A.
=+e. From the previous changes, what conclusions can be drawn about the impact of(1) decreased inflationary expectations and (2) increased risk aversion on the required returns of risky assets?
=+LG 6 P8–30 Integrative: Risk, return, and CAPM Wolff Enterprises must consider several investment projects, A through E, using the capital asset pricing model (CAPM) and its graphical representation, the security market line (SML). Relevant information is presented in the following table.Item
=+a. Calculate (1) the required rate of return and (2) the risk premium for each project, given its level of nondiversifiable risk.
=+b. Use your findings in part a to draw the security market line (required return relative to nondiversifiable risk).
=+c. Discuss the relative nondiversifiable risk of projects A through E.
=+d. Assume that recent economic events have caused investors to become less risk averse, causing the market return to decline by 2%, to 12%. Calculate the new required returns for assets A through E, and draw the new security market line on the same set of axes that you used in part b.
=+e. Compare your findings in parts a and b with those in partd. What conclusion can you draw about the impact of a decline in investor risk aversion on the required returns of risky assets?
=+LG 1 P8–31 ETHICS PROBLEM Risk is a major concern of almost all investors. When shareholders invest their money in a firm, they expect managers to take risks with those funds. What ethical limits should managers observe when taking risks with other people’s money?
=+a. Calculate the average return for each individual stock.
=+b. Calculate the standard deviation for each individual stock.
=+c. Calculate the average returns for portfolios AB, AC, and BC.
=+d. Calculate the standard deviations for portfolios AB, AC, and BC.
=+e. Would you recommend that Jane invest in the single stock A or the portfolio consisting of stocks A and B? Explain your answer from a risk–return viewpoint.
=+f. Would you recommend that Jane invest in the single stock B or the portfolio consisting of stocks B and C? Explain your answer from a risk–return viewpoin
=+5–18 How do you calculate the future value of a mixed stream of cash flows?
=+How do you calculate the present value of a mixed stream?
=+5–26 How can you determine the size of the equal, end-of-year deposits necessary to accumulate a certain future sum at the end of a specified future period at a given annual interest rate?
=+ST5–1 Future values for various compounding frequencies Delia Martin has $10,000 that she can deposit in any of three savings accounts for a 3-year period. Bank A compounds interest on an annual basis, bank B compounds interest twice each year, and bank C compounds interest each quarter. All
=+a. What amount would Ms. Martin have after 3 years, leaving all interest paid on deposit, in each bank?
=+b. What effective annual rate (EAR) would she earn in each of the banks?
=+c. On the basis of your findings in parts a andb, which bank should Ms. Martin deal with? Why?
=+d. If a fourth bank (bank D), also with a 4% stated interest rate, compounds interest continuously, how much would Ms. Martin have after 3 years?
=+Does this alternative change your recommendation in part c? Explain why or why not.
=+LG 3 ST5–2 Future values of annuities Ramesh Abdul has the opportunity to invest in either of two annuities, each of which will cost $38,000 today. Annuity X is an annuity due that makes 6 cash payments of $9,000. Annuity Y is an ordinary annuity that makes 6 cash payments of $10,000. Assume
=+a. On a purely intuitive basis (i.e., without doing any math), which annuity do you think is more attractive? Why?
=+b. Find the future value after 6 years for both annuities.
=+c. Use your finding in part b to indicate which annuity is more attractive. Why?Compare your finding to your intuitive response in part a.
=+LG 2 LG 3 ST5–3 Present values of single amounts and streams You have a choice of accepting either of two 5-year cash flow streams or single amounts. One cash flow stream is an ordinary annuity, and the other is a mixed stream. You may accept alternative A or B, either as a cash flow stream or
=+ST5–4 Deposits needed to accumulate a future sum Judi Janson wishes to accumulate$8,000 by making equal, end-of-year deposits over the next 5 years. If Judi can earn 7% on her investments, how much must she deposit at the end of each year to meet this goal?
=+LG 2 LG 5 E5–2 Paul Jackson saved £6,200 over last 2 years and decided to invest in an individual savings account (ISA), which is a type of savings account that offers tax exemptions to residents of the United Kingdom. If the ISA pays 3% annual interest, what will the account balance be after
=+LG 3 E5–3 Lisi Ji just won $12 million in the Hong Kong mega lottery. She is given the option of receiving a lump sum immediately, or she can elect to receive an annual payment of $1 million at the end of each year for the next 15 years. If Lisi can earn 8% annually on her investments, which
=+E5–5 First Choice Bank wants to earn an effective interest rate of 18% per year. In order to suit different potential borrowers’ needs, the bank offers two options. The first calculates interest on a weekly compounding basis, while the second calculates interest compounded monthly. What
=+LG 6 E5–6 Jack and Jill have just had their first child. If they expect that college will cost$150,000 per year in 18 years, how much should the couple begin depositing annually at the end of each of the next 18 years to accumulate enough funds to pay 1 year of tuition 18 years from now? Assume
=+P5–1 Using a timeline Barnaby PLC is considering starting a new branch of their business in Northern Ireland that requires an initial outlay of £280,000 and is expected to produce cash inflows of £80,000 at the end of years 1, 2, and 3;£70,000 at the end of years 4 and 5; and £90,000 at
=+a. Draw and label a timeline depicting the cash flows associated with Barnaby’s proposed investment.
=+b. Use arrows to demonstrate, on the timeline in parta, how compounding to find future value can be used to measure all cash flows at the end of year 6.
=+c. Use arrows to demonstrate, on the timeline in parta, how discounting to find present value can be used to measure all cash flows at the beginning of the period(time zero).
=+d. Which of the approaches—future value or present value—do you think financial managers rely on most often for decision making?
=+LG 2 P5–2 Future value calculation Without referring to the preprogrammed function on your financial calculator, use the basic formula for future value along with the given interest rate, r, and the number of periods, n, to calculate the future value of £1 in each of the cases shown in the
=+P5–3 Future value You have $100 to invest. If you put the money into an account earning 5% interest compounded annually, how much money will you have in 10 years? How much money will you have in 10 years if the account pays 5%simple interest?
=+P5–4 Future values For each of the cases shown in the following table, calculate the future value of the single cash flow deposited today and held until the end of the deposit period if the interest is compounded annually at the rate specified.
=+P5–5 Time value James has €4,000 to invest in a savings account at 5% interest compounded annually.
=+a. Find out the compound value in the account after (1) 2 years, (2) 6 years, and (3)10 years.
=+b. Use your findings in part a to calculate the amount of interest earned in (1) the first 2 years (years 1 to 2), (2) the next 4 years (years 3 to 6), and (3) the last 4 years (years 7 to 10)
=+c. Compare your findings in partb. Why does the amount of interest earned increase in each succeeding period?Personal Finance Problem
=+LG 2 P5–6 Time value Isabella wishes to purchase a Nissan GTR. The car costs £85,000 today and, after completing her graduation, she has secured a well-paying job and is able to save for the car. The price trend indicates that its price will increase by 3% to 6% every year. Isabella wants to
=+a. Estimate the price of the car in 5 years if the price increases by (1) 3% per year and (2) 6% per year.
=+b. How much more expensive will the car be if the price increases by 6% rather than 3%?Personal Finance Problem
=+LG 2 P5–7 Time value You can deposit $10,000 into an account paying 9% annual interest either today or exactly 10 years from today. How much better off will you be 40 years from now if you decide to make the initial deposit today rather than 10 years from today?Personal Finance Problem
=+LG 2 P5–8 Time value Peter just got his driver’s license, and he wants to buy a new sports car for $70,000. He has $3,000 to invest as a lump sum today. Peter is a conservative investor and he only invests in safe products. After approaching different banks, he is offered the following
=+a. River Bank’s savings account with an interest rate of 10.8% compounded monthly.
=+b. First State Bank’s savings account with an interest rate of 11.5% compounded annually
=+c. Union Bank’s saving account with an interest rate of 9.3% compounded weekly.
=+How long will it take for Peter to accumulate enough money to buy the car in each of the three cases?
=+P5–9 Single-payment loan repayment Kelly borrows $30,000, to start a motor repair business in Hong Kong, that she must repay in a lump sum within the next 9 years.The interest rate is 10% annually compounded. There is no prepayment penalty.
=+a. What amount will be due if she decides to repay the loan after 2 years?
=+b. How much would she have to repay after 5 years?
=+c. What amount is due at the end of 8 years?
=+LG 2 P5–10 Present value calculation Without referring to the preprogrammed function on your financial calculator, use the basic formula for present value, along with the given discount rate, r, and the number of periods, n, to calculate the present value of $1 in each of the cases shown in the
=+P5–11 Present values For each of the cases shown in the following table, calculate the present value of the cash flow. Assume that the cash flow is received at the end of the period noted in the table.
=+P5–12 Present value concept Answer each of the following questions.
=+a. How much money would you have to invest today to accumulate $6,000 after
=+6 years if the rate of return on your investment is 12%?
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