Bonds X and Y are issued by the same US company. Both bonds yield **10**% pa, and they have the same face value ($100), maturity, seniority, and payment frequency.

The only difference is that bond X and Y's **coupon rates** are **8** and **12**% pa respectively. Which of the following statements is true?

In the dividend discount model:

### P_0= \frac{d_1}{r-g} ###

The pronumeral ##g## is supposed to be the:

**Question 434** Merton model of corporate debt, real option, option

A risky firm will last for one period only (t=0 to 1), then it will be liquidated. So it's assets will be sold and the debt holders and equity holders will be paid out in that order. The firm has the following quantities:

##V## = Market value of assets.

##E## = Market value of (levered) equity.

##D## = Market value of zero coupon bonds.

##F_1## = Total face value of zero coupon bonds which is promised to be paid in one year.

What is the payoff to debt holders at maturity, assuming that they keep their debt until maturity?

A stock **just paid** a dividend of $1. Future annual dividends are expected to grow by 2% pa. The next dividend of $1.02 (=1*(1+0.02)^1) will be in one year, and the year after that the dividend will be $1.0404 (=1*(1+0.02)^2), and so on forever.

Its required total return is 10% pa. The total required return and growth rate of dividends are given as effective annual rates.

Calculate the current stock price.

**Question 786** fixed for floating interest rate swap, intermediated swap

The below table summarises the borrowing costs confronting two companies A and B.

Bond Market Yields |
||||

Fixed Yield to Maturity (%pa) | Floating Yield (%pa) | |||

Firm A | 3 | L - 0.4 | ||

Firm B | 5 | L + 1 | ||

Firm A wishes to borrow at a floating rate and Firm B wishes to borrow at a fixed rate. Design an **intermediated** swap (which means there will actually be two swaps) that nets a bank **0.1**% and shares the remaining swap benefits between Firms A and B equally. Which of the following statements about the swap is **NOT** correct?

**Question 825** future, hedging, tailing the hedge, speculation, no explanation

An equity index fund manager controls a USD**500** million diversified equity portfolio with a beta of **0.9**. The equity manager expects a significant rally in equity prices next year. The market does not think that this will happen. If the fund manager wishes to increase his portfolio beta to **1.5**, how many S&P500 futures should he buy?

The US market equity index is the S&P500. One year CME futures on the S&P500 currently trade at **2,155** points and the spot price is **2,180** points. Each point is worth $**250**.

The number of one year S&P500 futures contracts that the fund manager should buy is:

**Question 834** option, delta, theta, gamma, standard deviation, Black-Scholes-Merton option pricing

Which of the following statements about an option (either a call or put) and its underlying stock is **NOT** correct?

European Call Option |
||

on a non-dividend paying stock | ||

Description |
Symbol |
Quantity |

Spot price ($) | ##S_0## | 20 |

Strike price ($) | ##K_T## | 18 |

Risk free cont. comp. rate (pa) | ##r## | 0.05 |

Standard deviation of the stock's cont. comp. returns (pa) | ##\sigma## | 0.3 |

Option maturity (years) | ##T## | 1 |

Call option price ($) | ##c_0## | 3.939488 |

Delta | ##\Delta = N[d_1]## | 0.747891 |

##N[d_2]## | ##N[d_2]## | 0.643514 |

Gamma | ##\Gamma## | 0.053199 |

Theta ($/year) | ##\Theta = \partial c / \partial T## | 1.566433 |

Below is the Australian central bank’s cash rate.

From 2011 to 2017 the Australian central bank has implemented:

**Question 897** comparative advantage in trade, production possibilities curve, no explanation

Adam and Bella are the only people on a remote island. Their production possibility curves are shown in the graph.

Which of the following statements is **NOT** correct?

**Question 956** option, Black-Scholes-Merton option pricing, delta hedging, hedging

A bank sells a European call option on a non-dividend paying stock and delta hedges on a daily basis. Below is the result of their hedging, with columns representing consecutive days. Assume that there are 365 days per year and interest is paid daily in arrears.

Delta Hedging a Short Call using Stocks and Debt |
|||||||

Description |
Symbol |
Days to maturity (T in days) |
|||||

60 |
59 |
58 |
57 |
56 |
55 |
||

Spot price ($) | S | 10000 | 10125 | 9800 | 9675 | 10000 | 10000 |

Strike price ($) | K | 10000 | 10000 | 10000 | 10000 | 10000 | 10000 |

Risk free cont. comp. rate (pa) | r | 0.05 | 0.05 | 0.05 | 0.05 | 0.05 | 0.05 |

Standard deviation of the stock's cont. comp. returns (pa) | σ | 0.4 | 0.4 | 0.4 | 0.4 | 0.4 | 0.4 |

Option maturity (years) | T | 0.164384 | 0.161644 | 0.158904 | 0.156164 | 0.153425 | 0.150685 |

Delta | N[d1] = dc/dS | 0.552416 | 0.582351 | 0.501138 | 0.467885 | 0.550649 | 0.550197 |

Probability that S > K at maturity in risk neutral world | N[d2] | 0.487871 | 0.51878 | 0.437781 | 0.405685 | 0.488282 | 0.488387 |

Call option price ($) | c | 685.391158 | 750.26411 | 567.990995 | 501.487157 | 660.982878 | ? |

Stock investment value ($) | N[d1]*S | 5524.164129 | 5896.301781 | 4911.152036 | 4526.788065 | 5506.488143 | ? |

Borrowing which partly funds stock investment ($) | N[d2]*K/e^(r*T) | 4838.772971 | 5146.037671 | 4343.161041 | 4025.300909 | 4845.505265 | ? |

Interest expense from borrowing paid in arrears ($) | r*N[d2]*K/e^(r*T) | 0.662891 | 0.704985 | 0.594994 | 0.551449 | ? | |

Gain on stock ($) | N[d1]*(SNew - SOld) | 69.052052 | -189.264008 | -62.642245 | 152.062648 | ? | |

Gain on short call option ($) | -1*(cNew - cOld) | -64.872952 | 182.273114 | 66.503839 | -159.495721 | ? | |

Net gain ($) | Gains - InterestExpense | 3.516209 | -7.695878 | 3.266599 | -7.984522 | ? | |

Gamma | Γ = d^2c/dS^2 | 0.000244 | 0.00024 | 0.000255 | 0.00026 | 0.000253 | 0.000255 |

Theta | θ = dc/dT | 2196.873429 | 2227.881353 | 2182.174706 | 2151.539751 | 2266.589184 | 2285.1895 |

In the last column when there are 55 days left to maturity there are missing values. Which of the following statements about those missing values is **NOT** correct?