Janet Smith, a 55-year-old architect, has $100,000 to invest. Janet will need the money at retirement in
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Question:
Janet Smith, a 55-year-old architect, has $100,000 to invest. Janet will need the money at retirement in 10 years. There are two investment options for her:
- A telecommunication company common stock that costs $50 per share and pays dividends of $2.7 per share per year (a 5.4% dividend yield). The dividends will be taxed at the rate that applies to long-term capital gains. The stock price is expected to remain the same.
- A highly rated corporate bond that sells for $1,000 and pays annual interest rate of 5.1% (or $51 per $1,000). After 10 years, these bonds will be repaid at par value.
Assume that Smith takes out the income generated from the investment and does not re-invest it. Assume that she will pay all income taxes on the income generated from her investment. The stock will be sold after 10 years, if bought. The bonds will give back the same amount invested, which is $1,000 per bond. The tax rate bracket for Smith is 33%.
Answer the following questions:
- How many shares of stock can Smith buy?
- How much will Smith receive (after taxes) each year in dividend income if she goes with option #1, the stock option?
- What is the total amount generated that Smith will have for the original $100,000 if she goes with the stock option?
- How much income will Smith receive (after taxes) each year if she goes with the second option, the bond option?
- What is the total amount Smith will have of the original $100,000 if she goes with the bond option?
- Based on the results you found, and ignoring risk factors, which option above do you believe Smith should go with: the stock or the bond option? Explain and justify your answer.
- How would your answer change if the stock price is expected to drop to $45 per share at the end of the 10th year?
Instructions:
- Read the problem and answer all questions.
- Submit your response in a Word document.
- You must show your calculations and highlight your final responses.
- Be sure to label all answers appropriately (e.g., shares, dollars, percentage, etc.).
Related Book For
Personal Finance Turning Money into Wealth
ISBN: 978-0134730363
8th edition
Authors: Arthur J. Keown
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