Fin 403

100-point individual bonus assignment

Please do the following 10 problems by first writing down the logic of each step of your calculation and then showing your detailed calculation in each step.

1. Dooley, Inc., has outstanding $100 million (par value) bonds that pay an annual coupon rate of interest of 10.5 percent. Par value of each bond is $1,000. The bonds are scheduled to mature in 20 years. Because of Dooleys increased risk, investors now require a 14 percent rate of return on bonds of similar quality with 20 years remaining until maturity. The bonds are callable at 110 percent of par at

the end of 10 years.

a. What price would the bonds sell for assuming investors do not expect them to be called?

b. What price would the bonds sell for assuming investors expect them to be called at the end of 10 years?

2. Zabberer Corporation bonds pay a coupon rate of interest of 12 percent annually and have a maturity value of $1,000. The bonds are scheduled to mature at the end of 14 years. The company has the option to call the bonds in 8 years at a premium of 12 percent above the maturity value. You believe the company will exercise its option to call the bonds at that time. If you require a pretax return of 10 percent on bonds of this risk, how much would you pay for one of these bonds today?

3. Zheng Enterprises, a multinational drug company specializing in Chinese medicines, issued $100 million of 15 percent coupon rate bonds in January 2005. The bonds had an initial maturity of 30 years. The bonds were sold at par and were callable in five years at 110 (i.e., 110 percent of par value). It is now January 2010, and interest rates have declined such that bonds of equivalent remaining maturity now sell to yield 11 percent. How much would you be willing to pay for one of these bonds today? Why?

4. The expected rate of return for the stock of Cornhusker Enterprises is 20 percent, with a standard deviation of 15 percent. The expected rate of return for the stock of Mustang Associates is 10 percent, with a standard deviation of 9 percent.

a. Which stock would you consider to be riskier? Why?

b. If you knew that the beta coefficient of Cornhusker stock is 1.5 and the beta of Mustang is 0.9, how would your answer to Part a change?

5.An investor currently has all of his wealth in Treasury bills. He is considering investing one-third of his funds in General Electric, whose beta is 1.30, with the remainder left in Treasury bills. The expected risk-free rate (Treasury bills) is 6 percent and the market risk premium is 8.8 percent. Determine the beta and the expected return on the proposed portfolio.

6. Suppose that a portfolio consists of the following stocks:

Stock	Amount	Beta
Chevron	$20,000	0.7
GE	$40,000	1.3
Whirlpool	$40,000	1.1

The risk-free rate is 5 percent and the market risk premium is 8.8 percent.

a. Determine the beta for the portfolio.

b. Determine how much General Electric stock one must sell and reinvest in Chevron stock in order to reduce the beta of the portfolio to 1.00.

c. Determine the expected return on the portfolio in parts a and b.

7. Rollincoast Incorporated issued BBB bonds two years ago that provided a yield to maturity of 11.5 percent. Long-term risk-free government bonds were yielding 8.7 percent at that time. The current risk premium on BBB bonds versus government bonds is half of what it was two years ago. If the risk-free long-term government bonds are currently yielding 7.8 percent, then at what rate should Rollincoast expect to issue new bonds?

8. Zumwalt Corporation's Class S bonds have a 12-year maturity, $1,000 par value, and a 5.75% coupon paid semiannually (2.875% each 6 months), and those bonds sell at their par value. Zumwalt's Class A bonds have the same risk, maturity, and par value, but the A bonds pay a 5.75% annual coupon. Neither bond is callable. At what price should the annual payment bond sell?

9. You hold a diversified portfolio consisting of a $10,000 investment in each of 20 different common stocks (that is, your total investment is $200,000). The portfolio beta is equal to 1.2. You have decided to sell one of your stocks that has a beta equal to 0.7 for $10,000. You plan to use the proceeds to purchase another stock that has a beta equal to 1.4. What will be the beta of the new portfolio?

10.A portfolio manager is holding the following investments:

Stock Amount Invested Beta

X $10 million 1.4

Y 20 million 1.0

Z 40 million 0.8

The manager plans to sell his holdings of Stock Y. The money from the sale will be used to purchase another $15 million of Stock X and another $5 million of Stock Z. The risk-free rate is 5 percent and the market risk premium is 5.5 percent. How many percentage points higher will the required return on the portfolio be after he completes this transaction?