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    FM Assignment 3 - Group 4

    Uploaded by

    Puspita Ramadhania
    The document contains sample solutions to investment and finance problems. It calculates required rates of return, stock and portfolio returns, growth rates of dividends, and the value of a stock. Key details include: - Stock i's required return is 15.5% given risk-free rate of 9% and market return of 14%. - A portfolio of 50% Stock A and 50% Stock B has an average return of 11.3% and less risk than the individual stocks. - Thress Industries' expected dividends grow 5% for 3 years, then 10% annually, ranging from $1.575 to $2.1010 over 5 years. - Given industry growth of 6% and dividend yield of

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    FM Assignment 3 - Group 4

    Uploaded by

    Puspita Ramadhania
    60 views7 pages
    The document contains sample solutions to investment and finance problems. It calculates required rates of return, stock and portfolio returns, growth rates of dividends, and the value of a stock. Key details include: - Stock i's required return is 15.5% given risk-free rate of 9% and market return of 14%. - A portfolio of 50% Stock A and 50% Stock B has an average return of 11.3% and less risk than the individual stocks. - Thress Industries' expected dividends grow 5% for 3 years, then 10% annually, ranging from $1.575 to $2.1010 over 5 years. - Given industry growth of 6% and dividend yield of

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    The document contains sample solutions to investment and finance problems. It calculates required rates of return, stock and portfolio returns, growth rates of dividends, and the value of a stock. Key details include: - Stock i's required return is 15.5% given risk-free rate of 9% and market return of 14%. - A portfolio of 50% Stock A and 50% Stock B has an average return of 11.3% and less risk than the individual stocks. - Thress Industries' expected dividends grow 5% for 3 years, then 10% annually, ranging from $1.575 to $2.1010 over 5 years. - Given industry growth of 6% and dividend yield of

    Copyright:

    © All Rights Reserved
    Download as PDF, TXT or read online from Scribd
    Download as pdf or txt
    60 views7 pages

    FM Assignment 3 - Group 4

    Uploaded by

    Puspita Ramadhania
    The document contains sample solutions to investment and finance problems. It calculates required rates of return, stock and portfolio returns, growth rates of dividends, and the value of a stock. Key details include: - Stock i's required return is 15.5% given risk-free rate of 9% and market return of 14%. - A portfolio of 50% Stock A and 50% Stock B has an average return of 11.3% and less risk than the individual stocks. - Thress Industries' expected dividends grow 5% for 3 years, then 10% annually, ranging from $1.575 to $2.1010 over 5 years. - Given industry growth of 6% and dividend yield of

    Copyright:

    © All Rights Reserved
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    Download as pdf or txt
    of 7

    Group 4:

    ● Anissa Dian Setyarani Wokas (20/470892/PEK/26619)


    ● Firza Syafira (20/470938/PEK/26665)
    ● Puspita Ramadhania (20/471001/PEK/26728)
    ● Raveena Fiarani (20/471005/PEK/26732)

    Assignment 3

    (6-7) Suppose rRF = 9% , rM = 14% , and bi = 1.3


    A. What is ri , the required rate of return on Stock i?
    B. Now suppose rRF (1) increases to 10% or (2) decreases to 8%. The slope of the
    SML remains constant. How would this affect rM and ri ?
    C. Now assume rRF remains at 9% but rM (1) increases to 16% or (2) falls to 13%.
    The slope of the SML does not remain constant. How would these changes affect
    ri ?

    A. rRF = 9% ; rM = 14% ; bi = 1.3

    ri = rRF + (rM − rRF ) bi

    = 9% + (14% - 9%) 1.3

    = 15.5%

    B. rRF = 10%;

    ri = 10% + (14% − 10%) 1.3

    = 15.2%

    rRF = 8%;

    ri = 8% + (14% − 8%) 1.3

    = 15.8%
    If the rRF is decreased or increased and the SML is constant, it will not affect the
    rM since the risk-free rate is related to the premium that is given to the investors
    for anticipated inflation. But, change in rRF will affect the required return for the
    investors. As shown on the calculations, an increase to 10% of the rRF leads to ri
    of 15.2%, while decreased rRF increase the ri to 15.8%.

    C. rM = 16%;

    ri = 9% + (16% − 9%)1.3

    =​ 18.1%

    rM = 13% ;

    ri = 9% + (13% − 9%)1.3

    = ​14.2%

    A change in rM means that there is a change in risk-aversion of the investors and


    it will be shown in the SML. If the SML is steeper, it means that investors are
    more risk averse and the reverse will happen if investors are more indifferent to
    risk. Aside from that, change in rM will also affect expected return on the stock i.
    Calculations above indicate that an increase in rM will lead to an increase of ri by
    18.1%. Meanwhile, change in rM to 13% will lower the expected return on stock i
    to 14.2%.
    (6-12) Stocks A and B have the following historical returns:

    A. Calculate the average rate of return for each stock during the 5-year period.

    Average return of stock A = (-18 + 33.00 + 15.00 - 0.50 + 27.00) / 5 = 11.30%

    Average return of stock B = (-14.50 + 21.80 + 30.50 - 7.60 + 26.30) / 5 = 11.30%

    B. Assume that someone held a portfolio consisting of 50% of Stock A and 50% of
    Stock B. What would have been the realized rate of return on the portfolio in each
    year? What would have been the average return on the portfolio during this period?

    Portfolio return for 2006

    Portfolio return = 0.5 (-18) + 0.5 x (-14.50) = -16.25%

    Portfolio return for 2007

    Portfolio Return = 0.5 x 33 + 0.5 x 21.80 = 27.40%

    Portfolio return for 2008

    Portfolio Return = 0.5 x 15 + 0.5 x 30.5 = 22.75%

    Portfolio return for 2009

    Portfolio Return = 0.5 x (-0.5) + 0.5 x (-7.6) = -4.05%

    Portfolio return for 2010

    Portfolio Return = 0.5 x 27+ 0.5 x 26.3 = 26.25%


    The average return on the portfolio during this period

    Average Return = (-16.25 + 27.40 + 22.75 – 4.05 + 26.25) / 5 = 11.30%

    C. Calculate the standard deviation of returns for each stock and for the portfolio.

    The standard deviation of returns for stock A

    = 20.79

    The standard deviation of returns for stock B

    = 20.78

    D. Calculate the coefficient of variation for each stock and for the portfolio.

    The coefficient of variation for stock A

    CV = Standard Deviation / Average

    = 11.30/20.79 = 1.84

    The coefficient of variation for stock B

    CV = Standard Deviation / Average

    = 11.30/20.78 = 1.84

    The coefficient of variation for the portfolio

    CV = Standard Deviation / Average

    = 11.30/20.13 = 1.78

    E. If you are a risk-averse investor then, assuming these are your only choices, would
    you prefer to hold Stock A, Stock B, or the portfolio? Why?

    A risk-averse investor would choose the portfolio over either Stock A or Stock B alone,
    since the portfolio offers the same expected return but with less risk.
    (7-1) Thress Industries just paid a dividend of $1.50 a share (i.e., D0 = $1.50). The dividend
    is expected to grow 5% a year for the next 3 years and then 10% a year thereafter.
    What is the expected dividend per share for each of the next 5 years?

    The growth rate for the next three years is 5% and after that 10%. The constant growth
    model specifies that the value of dividend increases at the constant rate.

    1. Using the following formula to calculate the dividend for the first year as follows:

    Dt = D0 (1 + g )t

    = $1.5 (1 + 0.05)1

    = $1.5(1.05)

    = ​$1.575

    2. Calculate the dividend for the second year as follows:

    D2 = D0 (1 + g )2

    = $1.5 (1 + 0.05)2

    = $1.5(1.1025)

    = ​$1.6538

    3. Calculate the dividend for the third year as follows:

    D3 = D0 (1 + g )3

    = $1.5 (1 + 0.05)3

    = $1.5(1.157625)

    = ​$1.7364
    4. Calculate the dividend for the fourth year as follows:

    D4 = D0 (1 + g old )3 (1 + g new )1
    = $1.5 (1 + 0.05)3 (1 + 0.10)1

    = $1.5 ( 1.157625) (1 + 0.10)1

    = ($1.7364)(1.10)

    = ​$1.9100

    5. Calculate the dividend for the fifth year as follows:

    D5 = D0 (1 + g old )3 (1 + g new )2

    = $1.5 (1 + 0.05)3 (1 + 0.10)2

    = $1.5 ( 1.157625) (1 + 0.10)2

    = ($1.7364)(1.21)

    = ​$2.1010

    (7-11) Assume that the average firm in your company’s industry is expected to grow at a
    constant rate of 6% and that its dividend yield is 7%. Your company is about as
    risky as the average firm in the industry, but it has just successfully completed some
    R&D work that leads you to expect that its earnings and dividends will grow at a
    rate of 50% [D1 = D0(1 + g) = D0(1.50)] this year and 25% the following year, after
    which growth should return to the 6% industry average. If the last dividend paid
    (D0) was $1, what is the value per share of your firm’s stock?

    Solution :

    ● The required return

    = constant rate + dividend yield = 6% + 7% = 13%


    ● The value of per share is the present value of all dividends. The dividends are:

    Year Growth Rate Dividend

    0 $1.50

    1 50% $2.25

    2 25% $2.81

    3 6% $2.98

    From year 3 the growth rate is constant. The PV of all dividends from year 3 onwards in
    year 2 is

    D3
    PV in year 2 = (required return − growth rate)

    2.98
    = (13% − 6%) = 2.98
    7% = $42.57

    ● The dividend are

    Year 1 2

    Dividend $2.25 PV in Year 2 + D2


    = $42.57 + $2.81
    = $45.38

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