FINC Exam 2

Technical Analysts

1. Investors who attempt to identify undervalued stocks by searching for patterns in past stock prices. 2. Forecast stock prices based on the fluctuations in historical prices ("wiggle watchers")

Term Structure of Interest Rates

A listing of bond maturity dates and the interest rates that correspond with each date

Perpetuity

A stream of level cash payments - starting next period - that never ends.

Constant Growth DDM

A version of the DDM in which dividends grow at a constant rate (a/k/a Gordon Growth Model).

Current Yield (loser)

Annual coupon payment divided by the bond price

Coupon Rate

Annual interest payment, as a percentage of face value

Junk bonds

Bond with a rating below Baa or BBB

Investment grade

Bonds rated Baa or above (Moody's) or BBB or above by S&P

Blue Skies just paid a $3.00 dividend. Blue skies investors require a 12.0% return on investments of comparable risk, and they anticipate dividends to increase at 4.0% forever. What is an appropriate price for Blue Skies' stock?

DIV1 = DIVo (1+g) Po= DIV1 / r - g

Yield to Maturity (YTM) winner/ interest rate synonym

Discount rate for which the present value of the bond's payments equals the price.

Dividend Discount Model (DDM)

Discounted CF model which states that today's stock price equals the present value of all expected future dividends

Rate of Return

Earnings per period per dollar invested

Annuity

Equally spaced level stream of cash flows - starting next period - for a limited period of time.

You deposit $125 into an account which pays 6.5% per year for the first two years. However, the rate of interest drops to 3.5% thereafter. What is the value of your investment five years from today (assume annual compounding)?

FV2 = 125 (1.065)2 FV5 = 141.7781 (1.035)3

Market Value Balance Sheet

Financial statement that uses market value of all assets and liabilities

Initial Public Offering (IPO)

First offering of stock to the general public

Payout Ratio

Fraction of earnings paid out as dividends

Plowback Ratio

Fraction of earnings retained by the firm

How many years will it take $1 million to grow to $4 million with an annual interest rate of 7%?

I/Y= 7 PV= -1 PMT= 0 FV= 4 N= ? 20.49

Annual Percentage Rate (APR)

IR that is annualized using SIMPLE interest

Effective Annual Interest Rate (EAR)

IR that is annualized using compound interest

Discount Rate

Interest rate used to compute present values of future cash flows

Ten years ago, Jane invested $1,000 and locked in an 8% annual interest rate for 30 years (ending 20 years from now). James can make a 20 year investment today and lock in a 7% interest rate. How much money should be invested now in order to have the same amount off money in 20 years as Jane?

Jane N= 30 I/Y= 8 PV= -1000 PMT= 0 FV= ? 10,062.66 James N= 20 I/Y= 7 PMT= 0 FV= 10,062.66 PV= ? 2,600.38

Annuity Due

Level stream of cash flows starting immediately

Efficient Market

Market in which prices reflect all available information

Discounted Cash Flow (DCF)

Method of calculating PV by discounting future cash flows

A 10-year maturity bond with a face value of $1,000 makes annual coupon payments and has a coupon rate of 8.0% what is the bond's YTM if the bond is selling for $900?

N= 10 PV= -900 PMT= 80 FV= 1000 I/Y= ? 9.60%

A 9.0% coupon bond with 10 years left to maturity is offered for sale at $1,017.20. What yield to maturity is the bond offering? Assume interest payments are paid semi-annually

N= 20 PV= -1017.20 PMT= 45 FV= 1000 YTM= ? 4.3693 x 2

What is the price of a 30-year 10% annual coupon bond with a $1,000 face value that offers a yield to maturity of 10%?

N= 30 I/Y= 10 PMT= 100 FV= 1,000 PV= ? 1,000

What is the price of a 30-year 10% annual coupon bond with a $1,000 face value that offers a yield to maturity of 12.5%?

N= 30 I/Y= 12.5 PMT= 100 FV= 1000 PV= ? 805.84

What is the price of a 30-year 10% annual coupon bond with a $1,000 face value that offers a yield to maturity of 8.5%?

N= 30 I/Y= 8.5 PMT= 100 FV= 1,000 PV= ? 1,161.20

With an interest rate of 7%, what is the present value of $500 received four years from today?

N= 4 I/y= 7 PMT= 0 FV= 500 PV= ? 381.45

You have $1,000 in an account which pays 6% ANNUAL compound interest. How many ADDITIONAL dollars of interest do you earn over a four-year period if you moved the money to an account earning 8%?

N= 4 N= 4 I/Y=8 I/Y= 6 PV= -1000 PV= -1000 PMT= 0 PMT= 0 FV= ?1360.49 FV= ?1262.48

You need to borrow $20,000 to purchase a new truck. The current loan rate is 7.7% compounded MONTHLY. You decide that you want to pay the loan off in equal monthly payments over 4 years. What is the size of your monthly payment?

N= 4*12= 48 I/Y= 7.7/12= .6417 PV= -20,000 FV = 0 PMT= ? 485.45

How much would be in your savings account in 5 years after depositing $1,200 today if the bank pays 4% interest per year?

N= 5 I/Y= 4 PV= -1,200 PMT= 0 FV= ? 1,459.98

What is the YTM of a 10.0% semi-annual coupon with $1,000 par value, which matures in 3 years? Assume the current market price of the bond is $1,081.95

N= 6 PV= -1081.95 PMT= 50 FV= 1000 YTM= ? 3.46x2

What annual rate of return is earned on a $5,000 investment when it grows to $7,000 in eight years?

N= 8 PV= -5000 PMT= 0 FV= 7000 I/Y= ? 4.3%

What is the value of a bond that has a par value of $1,000, a coupon rate of 6.0% (semi-annually), and matures in 10 years? Assume an interest rate of 5.50%.

N=20 I/Y= 2.75 PMT= 30 FV= 1000 PV= ? 1038.07

Liquidation Value

Net proceeds that could be realized by selling the firm's assets and paying off it's creditors

Book Value

Net worth of the firm according to the balance sheet

What is the present value of a 30 year annuity of $1,100 each year if your required return is 12%?

PVa = c/r [ 1 - 1/(1+r)t ]

If the present value of an ordinary, 5-year annuity is $6,000 and interest rates are 10%, what's the present value of the same annuity due?

PVann (1+r)

What is the present value of a $1,100 perpetual cash flow if your required return is 12%?

PVp = c / r

Face Value (Par Value or Principal Value)

Payment at the maturity of the bond

Dividend

Periodic cash distribution from the firm to the shareholders

Yield Curve

Plot of relationship between bond YTMs and time ton maturity

What is the price of a stock with an expected dividend and price next year of $0.16 and $60 respectively? Use a 12% discount rate.

Po= DIV1 + P1 / (1+r)t

Financial analysts forecast Bearkat Stores, Inc (NYSE: BKS) growth for the future to be 8%. Their recent annual dividend was $0.83. What is the value of their stock when the investors require a rate of return of 12%

Po= DIV1 / r - g

Discount Factor (DF)

Present value of a $1 future payment

Nominal Interest Rate

Rate at which money invested grows

Seasoned Issue

Sale of new shares by a firm that has already been through an IPO

Present Value (PV)

Value today of a future cash flow

Compound interest

interest earned in interest

Simple Interest

interest earned only on the original investment

Primary Market

market for the sale of new securities by corporations

Secondary Market

market in which previously issued securities are traded among investors

PVGO

net present value of a firm's future investments

Common Stock

ownership shares in a publicly held corporation

Bearkat Stores, Inc. (NYSE: BKS) stock is currently selling for $23.00. The firm is expected to pay a dividend of $2.75 one year from now. Dividends are expected to grow at a constant rate of 4% indefinitely. Compute the required rate of return for BKS stock.

r = (DIV1 / Po) + g

Inflation

rate at which prices as a whole are increasing

Real Interest Rate

rate at which the purchasing power of an investment increases

P/E Ratio

ratio of stock price to earnings per share

Bond

security that obligates the issuer to make specified payments to the bondholder

You just bought a new computer for $5,000. The payment terms are 3 years same as cash. If you can earn 6% on your money, how much should you set aside today in order to make the payment when due in three years

PV= FV / (1+r)t

What is the present value of the following set of cash flows at an interest rate of 9%: $1,000 today, 2,000 at the end of year one, 4,000 at the end of year three, and 6,000 at the end of year five?

PV= C0 + + C1/(1+r ) + C2/(1+r)t + C3/(1+r)t

Your auto dealer gives you the choice to pay $19,999 cash now, or make three payments: $10,000 now, $7,000 at the end of year one, and $4,000 at the end of year two. If your cost of money is 8%, what is the PV of the installment plan?

PV= C0 + C1/(1+r ) + C2/(1+r)t 19,910.84 < 19,999

What is the total PRESENT value of $50 received in one year, $250 received in two years, and $900 received in six years if the discount rate is 8%

PV= C0 + C1/(1+r ) + C2/(1+r)t + C6/(1+r)t

You are scheduled to receive an $800 cash flow in one year, $800 cash flow in two years, and pay a $1,000 payment in three years. If interest rates are 7% per year, what is the combined present value of these cash flows?

PV= C0 + C1/(1+r ) + C2/(1+r)t - C3/(1+r)t

default premium

The additional yield on a bond that investors require for credit risk

Sustainable Growth Rate (g)

The firm's growth rate if it plows back a constant fraction of earnings, maintains a constant ROE, and keeps its debt ratio constant

Coupon

The interest payments made to the bondholder

Expected Return

The percentage yield that an investor forecasts from a specific investment over a set period of time. Sometimes called the holding period return (HPR)

PV Annuity Factor

The present value of $1 a year for each of t years

Ask Price

The price at which current shareholders are willing to sell their shares

Bid Price

The price at which investors are willing to buy shares

Default or Credit Risk

The risk that a bond issuer may default on its bonds

Future Value (FV)

amount to which an investment will grow after earning interest