To fill out the first table, you will need to select 3 bonds with maturities bet
ID: 1176028 • Letter: T
Question
To fill out the first table, you will need to select 3 bonds with maturities between 10 and 20 years with bond ratings of "A to AAA," "B to BBB" and "C to CC" (you may want to use bond screener at the Web site linked above). All of these bonds will have these values (future values) of $1,000. You will need to use a coupon rate of the bond times the face value to calculate the annual coupon payment. You should subtract the maturity date from the current year to determine the time to maturity. The Web site should provide you with the yield to maturity and the current quote for the bond. (Be sure to multiply the bond quote by 10 to get the current market value.) You will then need to indicate whether the bond is currently trading at a discount, premium, or par.
Bond
Company/
Rating
Face Value (FV)
Coupon Rate
Annual Payment (PMT)
Time-to Maturity (NPER)
Yield-to-Maturity (RATE)
Market Value (Quote)
Discount, Premium, Par
A-Rated
$1,000
B-Rated
$1,000
C-Rated
$1,000
In this step, you have been asked to visit a credible Web site that provides detailed information on publicly traded stocks and select 1 that has at least a 5-year history of paying dividends and 2 of its closest competitors.
"To fill up the first table, you will need to gather information needed to calculate the required rate of return for each of the 3 stocks (use the Capital Asset Pricing model). You will need to find the risk-free rate online. It is the 5-year Treasury rate. You will need the market return which is just the return on the S&P 500 Index, and it is available online. You should use an average over 5 years (find the historical yearly returns for the S&P 500 Index and average them). You must research your stocks to find the betas. You should be able to find them at finance.yahoo.com."
Company
5-year Risk-Free Rate of Return
Beta (ß)
5-Year Return of S&P 500 Index
Required Rate of Return (CAPM)
"To complete the next table, you will need the most recent dividends paid over the past year for each stock, next year's expected dividends, the expected growth rate of the dividends (which you can calculate by taking next year's dividend subtracting off this year's dividend and dividing the result by this year's dividend), and the required rate of return you calculated in the previous table. You will also need to compare your results with the current value of each stock and determine whether the model suggests that they are over- or underpriced.
In the third table, you will be using the price to earnings ratio (P/E) along with the average expected earnings per share provided by the Web site. You will also need to compare your results with the current value of each stock to determine whether or not the model suggests that the stocks are over- or underpriced.
Company
Estimated Earning
(next year)
P/E Ratio
Estimated Stock Price (P/E)
Current Stock Price
Over/Under Priced
After completing the 3 tables, explain your findings and why your calculations coincide with the principles related to bonds that were presented in the Phase. Be sure to address the following:
Bond
Company/
Rating
Face Value (FV)
Coupon Rate
Annual Payment (PMT)
Time-to Maturity (NPER)
Yield-to-Maturity (RATE)
Market Value (Quote)
Discount, Premium, Par
A-Rated
$1,000
B-Rated
$1,000
C-Rated
$1,000
Explanation / Answer
Explain the relationship observed between the required rate of return, growth rate and the dividend paid, and the estimated value of the stock using the Gordon Model.
Answer: Gordon Growth Model- This model is used to find the intrinsic value of stock, intrinsic value is the fair value or actual value of stock that is further used to know whether the stock is overpriced or underpriced. This model is also known as Dividend discount model.
Formula: P0 = D1 / (k-g)
Where; P0 = Value of the stock, D1 = Next year Dividend, k = Discount rate or required rate of return, g = growth rate
D1 can be calculated by adding the growth to the current year dividend, i.e. D1 = D0 (1+g),
k can be calculated with the help of CAPM and g is given in the question. With the help of all the three elements, you can calculate Intrinsic value of the stock.
Explain the value and weaknesses of the Gordon model.
Answer: Advantage of Gordon model-
Weakness of the model-
Explain the how the price-to-earnings model is used to estimate the value of the stocks.
Answer: Price earning ratio- It calculates the one dollar value of shareholders, it tells how much shareholders invested into the stock and how much earning, they are getting with that respect. It is also known as Price multiple.
Formula: P/E Ratio = Current Price of the share / Earning per share
Application- P/E ratio is used to assign the relative value to stock. This ratio tells whether the stock is costlier or cheaper currently, investors can compare the company's P/E ratio with industry's P/E ratio. If a company has high P/E, It means company's share is costlier in the market. When investors use P/E model, they should also keep in mind the company's life cycle and same industry.
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