Case 78 Questions McDaniel Nienberg Palmer Pastor

1417 Words Apr 8th, 2015 6 Pages
Questions 1. According to ValueLine estimates in Figure 1, James River’s expected an­nu­al dividend growth rate from the 91–93 to 97–99 period is 5.50%, and the next dividend (1995) is expected to be $0.60. Assume that the re­quired return for James River was 8.36% on January 1 1995 and that the 5.50% growth rate was expected to continue indefinitely. a. Based on the Constant Growth Rate or Gordon Model, what was James River’s price at the beginning of 1995? b. What conditions must hold to use the constant growth model?

c. Do many “real world” stocks satisfy the constant growth assumptions? 2. The Wall Street Journal (WSJ) lists the current price of James River com­mon stock at $27.00. a. Based on this information, the
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c. What is each bond’s expected price after one year, assuming they both have a YTM of 8.50%?

What is the capital gains yields for the year for each bond assuming no change in interest rates?

d. What is the expected total (percentage) return on each bond during the next year?

e. What would happen to the price, current yield, and total return of each bond over time assuming constant future interest rates? f. If you were a tax-paying investor,

which bond would you prefer?

Why?

What impact would this preference have on the prices, hence YTM, of the tow bonds? 10. Assuming the proposed 28 year bond is callable and sells for $1,225, what is the yield to first call?
The yield to call would be 8.38% Do you think it is likely that the bond will be called?
The coupon rate is higher than the market rate which would give strong evidence that it will be called Explain how the probability of call affects the required yield on a bond.
Since the probability of it being called is high, people will not want to buy and own the bond because it will be bought back in a short period of time. 11. Consider the risk of the bonds. a. Explain the difference between interest rate price risk and coupon reinvestment rate risk. The interest rate price risk is the risk that the interest rate will increase over time and will cause the bond to lose its value in the market. If the interest rate price risk ends up decreasing over time the

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