Case Narrative: A firm’s capital structure includes the following securities. It

Question

Case Narrative: A firm’s capital structure includes the following securities. It has 500,000 shares of common stock (equity) outstanding, selling for $20 per share. The preferred stock share price is $50 and which a $4 dividend with no growth expected. Each share of common stock sells for $20 and pays a $1.00 dividend, which is expected to grow by 2% per year. The current price of the bonds is $818, and the coupon rate is 5%. The bonds will mature in 10 years.

What caused the value of this bond to drop from $1,000 to $818?

Explanation / Answer

As per the question given i can say that the Equity with the dividend growth of 2% is main reason behind drop of Bond value because Every risk averse investor would invest in securities where he gains more return.

The another reasons behind drop of bond value is interest rate in the market because the interest rate is higher in the market than the coupon rate which leads to drop of bond value.

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