Question

Lobo Corp currently pays an annual dividend of $5. Starting next fiscal year, the dividend is expected to increase by 3% a year. If the current interest rate in the market is 6.5% per year, what is the value of Lobo’s stock today?

• $137 • $187 • $147 • $157

You just purchased a 30-year bond with 6% annual coupon, par value of $1000, and 15 years to maturity. The bond makes payments semi-annually and the interest rate in the market is 7.0%. How is the bond trading relatively to par?

• Below par • At par • Above par • At a premium

Answer 1

1)

Value of Lobo's Stock = Current Dividend * (1 + growth rate) / (Required rate - growth rate)

Value of Lobo's Stock = $5 * (1 + 3%) / (6.5% - 3%)

Value of Lobo's Stock = $147

2)

No of periods = 15 years * 2 = 30 semi-annual periods

Coupon per period = (Coupon rate / No of coupon payments per year) * Par value

Coupon per period = (6% / 2) * $1000

Coupon per period = $30

Bond Price = Coupon / (1 +YTM / 2)^period + Par value / (1 + YTM / 2)^period

Bond Price = $30 / (1 + 7% / 2)¹ + $30 / (1 + 7% / 2)² + ...+ $30 / (1 + 7% / 2)³⁰ + $1000 / (1 + 7% / 2)³⁰

Using PVIFA = ((1 - (1 + Interest rate)^{- no of periods}) / interest rate) to value coupons

Bond Price = $30 * (1 - (1 + 7% / 2)^-30) / (7% / 2) + $1000 / (1 + 7% / 2)³⁰

Bond Price = $908.04

The bond is trading below Par