Fight Finance

Question 15  bond pricing

For a price of $95, Nicole will sell you a 10 year bond paying semi-annual coupons of 8% pa. The face value of the bond is $100. Other bonds with the same risk, maturity and coupon characteristics trade at a yield of 8% pa.

Would you like to the bond or politely ?

Question 108  bond pricing, zero coupon bond, term structure of interest rates, forward interest rate

An Australian company just issued two bonds:

• A 1 year zero coupon bond at a yield of 10% pa, and
• A 2 year zero coupon bond at a yield of 8% pa.

What is the forward rate on the company's debt from years 1 to 2? Give your answer as an APR compounding every 6 months, which is how the above bond yields are quoted.

(a) 0.1840

(b) 0.1202

(c) 0.0920

(d) 0.0602

(e) 0.0301

Question 302  WACC, CAPM

Which of the following statements about the weighted average cost of capital (WACC) is NOT correct?

(a) WACC before tax ##= r_D.\dfrac{D}{V_L} + r_{EL}.\dfrac{E_L}{V_L}##

(b) WACC before tax ##= r_f + \beta_{VL}.(r_m - r_f)##

(c) WACC after tax ##= r_D.(1-t_c).\dfrac{D}{V_L} + r_{EL}.\dfrac{E_L}{V_L}##

(d) WACC after tax ##= r_f + \beta_{VL}.(r_m - r_f) - \dfrac{r_D.D.t_c}{V_L}##

(e) WACC after tax ##= r_f + \beta_{VL}.(r_m - r_f)##

Question 368  interest tax shield, CFFA

A method commonly seen in textbooks for calculating a levered firm's free cash flow (FFCF, or CFFA) is the following:

###\begin{aligned} FFCF &= (Rev - COGS - Depr - FC - IntExp)(1-t_c) + \\ &\space\space\space+ Depr - CapEx -\Delta NWC + IntExp(1-t_c) \\ \end{aligned}###

Does this annual FFCF or the annual interest tax shield?

Question 487  capital budgeting, opportunity cost, sunk cost

A young lady is trying to decide if she should attend university or begin working straight away in her home town.

The young lady's grandma says that she should not go to university because she is less likely to marry the local village boy whom she likes because she will spend less time with him if she attends university.

What's the correct way to classify this item from a capital budgeting perspective when trying to decide whether to attend university?

The cost of not marrying the local village boy should be classified as:

(a) A sunk cost.

(b) An opportunity cost.

(c) A non-pecuniary cost that should be disregarded.

(d) A positive side effect.

(e) A depreciation expense.

Question 586  option

Which one of the following statements about option contracts is NOT correct?

(a) Option premium is another name for option price.

(b) An option contract's price is always changing.

(c) Strike price is another name for exercise price.

(d) An option contract's strike price is always changing.

(e) Call and put option premiums are paid at the start when the option is bought. Call option exercise prices are paid when they are exercised, usually at maturity.

Question 696  utility, risk aversion, utility function

Mr Blue, Miss Red and Mrs Green are people with different utility functions. Which of the statements about the 3 utility functions is NOT correct?

(a) Mr Blue prefers more wealth to less. Mrs Green enjoys losing wealth.

(b) Miss Red has the same utility no matter how much wealth she has.

(c) Mr Blue is risk averse.

(d) Miss Red is risk averse.

(e) Mrs Green is risk loving.

Question 772  interest tax shield, capital structure, leverage

A firm issues debt and uses the funds to buy back equity. Assume that there are no costs of financial distress or transactions costs. Which of the following statements about interest tax shields is NOT correct?

(a) Higher debt leads to higher interest expense.

(b) Higher interest expense leads to lower profit before tax, following on from above.

(c) Lower profit before tax leads to lower tax payments, following on from above.

(d) Lower tax payments lead to higher cash flow from assets, following on from above.

(e) Lower profit after tax leads to a lower share price, following on from above.

Question 849  credit card, APR, no explanation

You just spent $1,000 on your credit card. The interest rate is 24% pa compounding monthly. Assume that your credit card account has no fees and no minimum monthly repayment.

If you can't make any interest or principal payments on your credit card debt over the next year, how much will you owe one year from now?

(a) $13,214.7887

(b) $1,268.2418

(c) $1,240

(d) $806.4516

(e) $788.4932

Question 876  foreign exchange rate, forward foreign exchange rate, cross currency interest rate parity

Suppose the yield curve in the USA and Germany is flat and the:

• USD federal funds rate at the Federal Reserve is 1% pa;
• EUR deposit facility at the European Central Bank is -0.4% pa (note the negative sign);
• Spot EUR exchange rate is 1 USD per EUR;
• One year forward EUR exchange rate is 1.011 USD per EUR.

You suspect that there’s an arbitrage opportunity. Which one of the following statements about the potential arbitrage opportunity is NOT correct?

(a) Right now, borrow USD in America, convert it into EUR at the spot, lend it in Germany and lock in to buy USD and sell EUR forward one year. One year later, withdraw the EUR, convert it into USD and pay back the USD loan.

(b) American debt may be under-priced, buy it.

(c) German debt may be over-priced, sell it.

(d) The spot EUR may be over-priced compared to the USD, sell the EUR now.

(e) The forward EUR may be under-priced compared to the USD, lock in to buy the EUR in one year.