Fight Finance

Question 3  DDM, income and capital returns

The following equation is called the Dividend Discount Model (DDM), Gordon Growth Model or the perpetuity with growth formula: ### P_0 = \frac{ C_1 }{ r - g } ###

What is ##g##? The value ##g## is the long term expected:

(a) Income return of the stock.

(b) Capital return of the stock.

(c) Total return of the stock.

(d) Dividend yield of the stock.

(e) Price-earnings ratio of the stock.

Question 298  interest only loan

A prospective home buyer can afford to pay $2,000 per month in mortgage loan repayments. The central bank recently lowered its policy rate by 0.25%, and residential home lenders cut their mortgage loan rates from 4.74% to 4.49%.

How much more can the prospective home buyer borrow now that interest rates are 4.49% rather than 4.74%? Give your answer as a proportional increase over the original amount he could borrow (##V_\text{before}##), so:

###\text{Proportional increase} = \frac{V_\text{after}-V_\text{before}}{V_\text{before}} ###

Assume that:

• Interest rates are expected to be constant over the life of the loan.

• Loans are interest-only and have a life of 30 years.

• Mortgage loan payments are made every month in arrears and all interest rates are given as annualised percentage rates compounding per month.

(a) 0.055679

(b) 0.029631

(c) 0.029547

(d) 0.006245

(e) 0.0025

Question 357  PE ratio, Multiples valuation

Which of the following investable assets are NOT suitable for valuation using PE multiples techniques?

(a) Common equity in a listed public mining extraction company that will cease operations, wind up, and return all capital to shareholders in one year when its sole gold mine becomes depleted.

(b) Common equity in a small private owner-operated mining services company whose main asset is its sole tanker truck which delivers fuel to mines. The firm's shares are 100% owned by Bob, the driver of the tanker truck.

(c) Common equity in a large listed public company in the banking industry.

(d) Residential apartment real estate.

(e) Commercial warehouse real estate.

Question 531  bankruptcy or insolvency, capital structure, risk, limited liability

Who is most in danger of being personally bankrupt? Assume that all of their businesses' assets are highly liquid and can therefore be sold immediately.

(a) Alice has $6,000 cash, owes $10,000 credit card debt due immediately and 100% owns a sole tradership business with assets worth $10,000 and liabilities of $3,000.

(b) Billy has $10,000 cash, owes $6,000 credit card debt due immediately and 100% owns a corporate business with assets worth $3,000 and liabilities of $10,000.

(c) Carla has $6,000 cash, owes $10,000 credit card debt due immediately and 100% owns a corporate business with assets worth $10,000 and liabilities of $3,000.

(d) Darren has $10,000 cash, owes $6,000 credit card debt due immediately and 100% owns a sole tradership business with assets worth $3,000 and liabilities of $10,000.

(e) Ernie has $1,000 cash, lent $3,000 to his friend, and doesn't have any personal debt or own any businesses.

Question 592  future, margin call

A trader buys one December futures contract on orange juice. Each contract is for the delivery of 10,000 pounds. The current futures price is $1.20 per pound. The initial margin is $5,000 per contract, and the maintenance margin is $4,000 per contract.

What is the smallest price change would that would lead to a margin call for the buyer?

(a) A price fall of $0.76 per pound.

(b) A price fall of $0.10 per pound.

(c) A price fall of $0.04 per pound.

(d) A price rise of $0.04 per pound.

(e) A price rise of $0.10 per pound.

Question 676  option, option profit, no explanation

Which of the below formulas gives the profit ##(\pi)## from being short a call option? Let the underlying asset price at maturity be ##S_T##, the exercise price be ##X_T## and the option price be ##f_{LC,0}##. Note that ##S_T##, ##X_T## and ##f_{LC,0}## are all positive numbers.

(a) ##\pi_{SC}=max⁡(S_T-X_T,0) + f_{LC,0}##

(b) ##\pi_{SC}=-max⁡(S_T-X_T,0) + f_{LC,0}##

(c) ##\pi_{SC}=max⁡(X_T-S_T,0) + f_{LC,0}##

(d) ##\pi_{SC}=-max⁡(S_T-X_T,0) - f_{LC,0}##

(e) ##\pi_{SC}=-max(X_T-S_T,0) - f_{LC,0}##

Question 740  real and nominal returns and cash flows, DDM, inflation

Taking inflation into account when using the DDM can be hard. Which of the following formulas will NOT give a company's current stock price ##(P_0)##? Assume that the annual dividend was just paid ##(C_0)##, and the next dividend will be paid in one year ##(C_1)##.

(a) ##P_0=\dfrac{C_\text{1,nominal}}{r_\text{nominal} - g_\text{nominal}}##

(b) ##P_0 =\dfrac{C_0 (1+g_\text{nominal} )^1}{r_\text{nominal} - g_\text{nominal}}##

(c) ##P_0=\dfrac{C_\text{1,real}}{r_\text{real} - g_\text{real}}##

(d) ##P_0=\dfrac{C_0 (1+r_\text{real})^1}{r_\text{real} - g_\text{real}}##

(e) ##P_0=\dfrac{C_0(1+r_\text{nominal} )^1}{r_\text{nominal} - g_\text{nominal}} - C_0##

Question 832  option, Black-Scholes-Merton option pricing

A 12 month European-style call option with a strike price of $11 is written on a dividend paying stock currently trading at $10. The dividend is paid annually and the next dividend is expected to be $0.40, paid in 9 months. The risk-free interest rate is 5% pa continuously compounded and the standard deviation of the stock’s continuously compounded returns is 30 percentage points pa. The stock's continuously compounded returns are normally distributed. Using the Black-Scholes-Merton option valuation model, determine which of the following statements is NOT correct.

(a) ##d_1=-0.001033933##

(b) ##N[d_1]=0.447492432##

(c) ##d_2=-0.431999277 ##

(d) ##N[d_2]=0.332870969 ##

(e) ##c_0=0.81951217##

Question 868  cash cycle

What is the Cash Conversion Cycle for a firm with a:

• Payables period of 1 day;
• Inventory period of 50 days; and
• Receivables period of 30 days?

All answer options are in days:

(a) 19

(b) 21

(c) 79

(d) 80

(e) 81

Question 943  dividend date, ex dividend date

On which date would the stock price increase if the dividend and earnings are higher than expected?

(a) Announcement date

(b) Last cum-dividend date

(c) Ex-dividend date

(d) Record date

(e) Payment date