Question 3 (18 marks)

1. Given the data in the table and the information below, please answer the following question. Show all working and formulas used.

Maturity (T)	r(1)	r(2)	r(3)	r(4)	r(5)	r(6)
Spot Rate (%)	0.15	0.22	0.25	0.28	0.20	0.13

Misty would like to invest 10,000. She is faced with the choice between 2 investments:

Option 1: invest for 5 years;

Option 2: invest for 3 years and reinvest for another 2 years at a forward rate of 0.06%

Should she be indifferent between the choices? If not, which one is the optimal option to Misty? [5 marks]

B. Sovereign debt (issued bonds) are typically considered as proxies for risk free. Discuss the reasons why sovereign debt may not be risk free. Why might credit ratings agencies give different credit ratings to sovereign debt issued by the same country, depending on coupons denominated in domestic or foreign currency. [5 marks]

C. Four Cs of credit analysis is used by analysts to evaluate creditworthiness. For each of the following scenarios, which of the Four Cs should be used for evaluation? Please also explain your answers.

[8 marks]

Scenarios	Which of the Four Cs
1. Company Z cannot issue dividends unless all bondholders have been paid the interests or coupons. In addition, the dividend payments cannot be greater than 30% of companys annual EBIT.
2. Company Y decides to issue debt, but its management is less credible with poor track records.
3. Company X has to pay $50,000 interest expense every year if debt is issued, but it only has an operating cash flow of $40,000 per year.
4. Company ABC decides to issue debt. However, it operates in an industry with 10 competitors, and it only has a market share of 3%. Investors are concerned with Xs ability to maintain stable cash flows over time.