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Questions on Asset Classes and Financial Instruments

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Chapter 2 – Asset Classes and Financial Instruments

Basic

1. What are the key differences between common stock, preferred stock, and corporate bonds?
The key differences are that common stock has voting power, residual claim, and limited liability. Preferred stock on the other hand, behaves like a hybrid stock because it has preferred and common dividends, but also it behaves like the corporate bonds because it has fixed income and is non-voting characteristics. Finally, corporate bonds are instruments of debt that provide fixed income and have non-voting characteristics. 2. Why do most professionals consider the Wilshire 5000 a better index of the performance of the broad stock market than the Dow Jones Industrial Average? …show more content…

An investor is in a 30% combined federal plus state tax bracket. If corporate bonds offer 9% yields, what must municipals offer for the investor to prefer them to corporate bonds?

It has to be at least 6.3% or higher. .3=1-(r/9)

15. Find the equivalent taxable yield of the municipal bond in Problem 13 for tax brackets of zero, 10%, 20%, and 30%

Zero= 4% 0=1-(4/r)
10%= 4.44% .1=1-(4/r)
20%= 5% .2=1-(4/r)
30%= 5.71% .3=1-(4/r)

16. Turn back to Figure 2.4 and look at the Treasury bond maturing in February 2012.

a. How much would you have to pay to purchase one of these bonds?
$1078.4375 Asked Price= 107:27=107.(27/32)
b. What is its coupon rate?
4.875%
c. What is the current yield (i.e., coupon income as a fraction of bond price) of the bond?
4.52% =48.75/1078.4375

17. Turn to Figure 2.8 and look at the listing for General Dynamics.

a. What was the firm’s closing price yesterday?
$76.31
b. How many shares could you buy for $5,000?
66.7
c. What would be your annual dividend income from those shares?
$ 93.38
d. What must be its earnings per share?

$5.7631 (Share Price of $74.92 divided by P/E of 13) Share Price/EPS = P/E

18. Consider the three stocks in the following table. Pt represents price at time t, and Qt represents shares outstanding at time t. Stock C splits two-for-one in the last period.

P0
Q0
P1
Q1
P2
Q2
A
90
100
95
100
95
100
B
50
200
45
200
45
200
C
100
200
110

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