a. Company XYZ is currently trading at $97.00 a share. The expected growth rate

Question

a. Company XYZ is currently trading at $97.00 a share. The expected growth rate is 4% and the required return rate is 7.8%. Calculate the next annual dividend amount using the Constant Dividend Growth Model.

b. An investor is considering a bond that currently sells at a discount ($953) to the face value of $1,000. The coupon rate is 9.25% paid semiannually. If there are 15 years left on the bond what is the yield to maturity?

c. An investor purchases 200 shares of XYX stock for $55.00 a share and immediately sells 2 covered call contracts at a strike price of $60.00 a share. The premium is $3.00 a share. What is the maximum profit and the maximum loss?

d. You are an analyst comparing the performance of two portfolio managers using the Sharpe Ratio measurement. Manager A shows a return of 16% with a standard deviation of 10%. Manager B shows a return of 12% with a standard deviation of 6%. If the risk free rate is 5% which manager has the better risk adjusted return?

Explanation / Answer

a)next annual dividend amount using the Constant Dividend Growth Model = 97*(0.078-0.04)

=$3.686

=$3.69 (appx)

b) here n= 15*2 =30 payments, price =$953, coupon payment = 9.25%/2*1000 =$46.25

so 953 = 46.25/(1+r)+46.25/(1+r)^2+----+46.25/(1+r)^15 +1000/(1+r)^15

=> solving for r, we get r=4.93%

but annual r =4.93%*2 =9.86%

so YTM =9.86%

c) max profit in covered call = premium received-purchasing price of underlying+strike price

=3-55+60

=$8 per share

as there are 200 shares , max profit 200*8 =$1600

maximum loss in covred call =unlimited

d) risk adjusted return for manager A =(0.16-0.05)/0.1

= 1.1

risk adjusted return for B = (0.12-0.05)/0.05

=1.4

So manager B has good risk adjusted return

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