Fight Finance

Government bonds currently have a return of 5%. A stock has a beta of 2 and the market return is 7%. What is the expected return of the stock?

Treasury bonds currently have a return of 5% pa. A stock has a beta of 0.5 and the market return is 10% pa. What is the expected return of the stock?

One of Miller and Modigliani's (M&M's) important insights is that a firm's managers should not try to achieve a particular level of leverage in a world with zero taxes and perfect information since investors can make their own leverage. Therefore corporate capital structure policy is irrelevant since investors can achieve their own desired leverage at the personal level by borrowing or lending on their own.

This principal of 'home-made' or 'do-it-yourself' leverage can also be applied to other topics. Read the following statements to decide which are true:

(I) Payout policy: a firm's managers should not try to achieve a particular pattern of equity payout.

(II) Agency costs: a firm's managers should not try to minimise agency costs.

(III) Diversification: a firm's managers should not try to diversify across industries.

(IV) Shareholder wealth: a firm's managers should not try to maximise shareholders' wealth.

Which of the above statement(s) are true?

Your friend just bought a house for $1,000,000. He financed it using a $900,000 mortgage loan and a deposit of $100,000.

In the context of residential housing and mortgages, the 'equity' or 'net wealth' tied up in a house is the value of the house less the value of the mortgage loan. Assuming that your friend's only asset is his house, his net wealth is $100,000.

If house prices suddenly fall by 15%, what would be your friend's percentage change in net wealth?

Assume that:

• No income (rent) was received from the house during the short time over which house prices fell.
• Your friend will not declare bankruptcy, he will always pay off his debts.

A stock's standard deviation of returns is expected to be:

• 0.09 per month for the first 5 months;
• 0.14 per month for the next 7 months.

What is the expected standard deviation of the stock per year ##(\sigma_\text{annual})##?

Assume that returns are independently and identically distributed (iid) and therefore have zero auto-correlation.

The below screenshot of Commonwealth Bank of Australia's (CBA) details were taken from the Google Finance website on 7 Nov 2014. Some information has been deliberately blanked out.

What was CBA's market capitalisation of equity?

You are promised 20 payments of $100, where the first payment is immediate (t=0) and the last is at the end of the 19th year (t=19). The effective annual discount rate is ##r##.

Which of the following equations does NOT give the correct present value of these 20 payments?

A firm wishes to raise $10 million now. They will issue 6% pa semi-annual coupon bonds that will mature in 3 years and have a face value of $100 each. Bond yields are 5% pa, given as an APR compounding every 6 months, and the yield curve is flat.

How many bonds should the firm issue?

Last year, two friends Gear and Nogear invested in residential apartments. Each invested $1 million of their own money (their net wealth).

Apartments cost $1,000,000 last year and they earned net rents of $30,000 pa over the last year. Net rents are calculated as rent revenues less the costs of renting such as property maintenance, land tax and council rates. However, interest expense and personal income taxes are not deducted from net rents.

Gear and Nogear funded their purchases in different ways:

• Gear used $1,000,000 of her own money and borrowed $4,000,000 from the bank in the form of an interest-only loan with an interest rate of 5% pa to buy 5 apartments.
• Nogear used $1,000,000 of his own money to buy one apartment. He has no mortgage loan on his property.

Both Gear and Nogear also work in high-paying jobs and are subject personal marginal tax rates of 45%.

Which of the below statements about the past year is NOT correct?