You are a financial analyst for a mutual fund and need to determine the value of the

Fantastic news! We've Found the answer you've been seeking!

Question:

You are a financial analyst for a mutual fund and need to determine the value of the stock of Venture Fund Inc. Venture Fund Inc. is a new and growing corporation.

The following table describes the characteristics of Venture Fund Inc.

Stock Name New equity Inc. Covariance of stock with the Market Annual EPS Forecast(for year 1) 0.03 $3.00

Payout ratio ROE EPS Expected Price Year 1 25% 20% $3.00 $100 Year 2 50% 10% ?$100 Year 3 and onwards 75% 20% ??

After Year 3. the payout ratio and return on equity (ROE) will remain constant forever at 75% p.a. and 20% p.a., respectively. The expected stock market risk premium is 5% p.a., the risk-free rate is 3% p.a. and the market standard deviation is 15% p.a. Assume that all rates given are compounded annually.

(a) Using the CAPM what is the required rate of return for the stock of Venture Fund Inc.? Assuming that the CAPM is correct, what should the price of Venture Fund inc's stock be today?

(b) Suppose the expected stock price in Year 2 is $100. What is the PVGO of VentureFund Inc.'s stock at the end of Year 2 (note that the dividend in Year 2 has already been paid out)?

(c) 1)Suppose you read the Wall Street Journal and learn that there is a lot of competition in VentureFund Inc's industry and the ROE of the company is expected to go down to the required rate of return starting in Year 3. What is the present value of Venture Fund Inc. at Year 2 (note that the dividend in Year 2 has already been paid out)? 2) if the market is (i) weak form. (ii)semi-strong form, or (iii) strong form efficient, can you profit from the information that you learned? Explain

(d) Assume that your calculation in part (c) is the forecasted price for VentureFund Inc at the start of Year 3. Describe a 1-period short selling strategy, between Year 2 to Year 3 in which you can profit from this situation, assuming no market imperfections. What would be your 1-period profit in $) if you followed this strategy?