Econ 136: Financial Economics Problem Set #10 Due Date: April 30, 2014 1. In the spreadsheet Markowitz-01.xlsx some of the entries in the long/short and longonly portfolio data sections are missing (the missing data locations are highlighted in yellow). Use the Solver to calculate the following to replace this data: (a) The mean excess return, standard deviation, and portfolio weights for the minimum variance portfolio. (b) The mean excess return, standard deviation, and portfolio weights for the optimum (maximum Sharpe ratio) portfolio. (c) The mean excess return, standard deviation, and portfolio weights for the portfolio with an expected excess return of 0.073. Note: Your results will differ slightly from those in the book because their …show more content…
Since this asset is the market it has a β of 1.0. With this: The value according to the Gordon growth model is D0 (1 + g) V0 = . (20) (E(rIndex ) − g) We are given the growth rate, but need to calculate the dividend amount and the cost of capital. The problem gives us the dividend as a dividend yield. To convert this into a dividend amount: D0 = (dividend yield) × (value of the index) = 0.0615 × $865 = $53.20 . (21) For the cost of equity we use the CAPM: E(rIndex ) = rf + β [E(rm ) − rf ] = 1.6% + 1.0 × 4.83% = 6.43% , (22) market risk premium and the value of the index follows as $53.20 (1.0335) D0 (1 + g) = = $1785.14 . V0 = (E(rIndex ) − g) (0.0643 − 0.0335) (23) 5. EverGrow corporation has a beta of 1.10 just paid a dividend of $1.35. The risk-free rate is 1.50% and the expected market return is 7.50%. Your growth analysts have concluded that the growth rate earnings per share and dividends will be 7% per year for the next three years and 3% per year thereafter. Calculate the value of EverGrow using the 2-stage dividend discount model. The 2-stage dividend discount model for this problem can be written 3 V0 = t=1 Dt V3 . t + (1 + r) (1 + r)3 (24) 3 Since we are not given the cost of equity capital r, but are given the needed data for a CAPM calculation, we proceed using the CAPM: r = rf + β [E(rm ) − rf ] = 1.50% + 1.1 (7.50% − 1.50%) = 8.1% . (25) The estimated future dividends are D1 = $1.35 ×
2. (a) B and D are not minimum variance efficient portfolios. D is not efficient because
A firm has an expected dividend next year of $1.20 per share, a zero growth rate
8-1. AEH, Inc. just paid a $1.00 dividend and is expected to pay a $1.06 dividend next year. What is AEH’s capital gains yield (growth rate, “g”)?
| (TCO C) Blease Inc. has a capital budget of $625,000, and it wants to maintain a target capital structure of 60 percent debt and 40 percent equity. The company forecasts a net income of $475,000. If it follows the residual dividend policy, what is its forecasted dividend payout ratio?
Burnes, Inc. is a mature firm that is growing at a constant rate of 5.5 percent per year. The firm’s last dividend was $1.50. If the required rate of return is 12 percent, what is the market value of this stock assuming dividend growth equals the growth rate of the firm?
Class, the key here is that this is the dividend growth model, please review the material on page 206. You need to find the “rate” (R) here. If you have trouble with formulas, you can find the formula solved for the rate on Table 7.1 of the textbook or you may apply Formula 7.5 of the textbook. – See the formula that has [7.5] next to it on page 210.
EPS Growth Rate: These values are also found in exhibit 6, leading to g = 5.55%
9. What is the Cost of Equity? (provide method/approach of calculating, provide equation, all data inputs and product.)
Some applications of dividend discount modeling can be more complex. One method divides the future growth in dividends into three periods, all of which have different growth rates. This is useful when a company’s profits are expected to grow rapidly and then gradually decline to an industry average. The complexities of this model are outside of the scope of this report, and the model can easily be run using tools found online. The assumptions of this calculation as follows. Walmart is no longer in a growth phase, so this calculation assumes that it is at the transitional phase. Because of this, 2007 data is used to initialize the calculation (EPS, dividend, etc.,) and the ‘growth’ period was 3 years. Initial growth of EPS still assumed to be 10.4%. 14 transitional years, as required by the model (total of 17 years for growth and transition is required). All of these assumptions result in a 3 stage DDM
(TCO D) A stock just paid a dividend of D0 = $1.50. The required rate of return is rs = 10.1%, and the constant growth rate is g = 4.0%. What is the current stock price?
Solutions to Valuation Questions 1. Assume you expect a company’s net income to remain stable at $1,100 for all future years, and you expect all earnings to be distributed to stockholders at the end of each year, so that common equity also remains stable for all future years (assumes clean surplus). Also, assume the company’s β = 1.5, the market risk premium is 4% and the 20-30 year yield on risk free treasury bonds is 5%. Finally, assume the company has 1,000 shares of common stock outstanding. a. Use the CAPM to estimate the company’s equity cost of capital. • re = RF + β * (RM – RF) = 0.05 + 1.5 * 0.04 = 11% b. Compute the expected net distributions to stockholders for each future year. • D = NI – ΔCE = $1,100 – 0 = $1,100 c. Use the
Corporate Finance ADM 3350 M & P (Winter 2015) Assignment 1 Due Date: February 23, 2015 Question 1 (5 Marks) Varta Inc. has just issued a dividend of $1.50 per share on its common stock. The company paid dividends of $1.10, $1.15, $1.25, and $1.37 per share in the last four years. The stock currently sells for $48. a. What is your best estimate of the company's cost of equity capital using the arithmetic average growth rate in dividends? b. What if you use the geometric average growth rate? Solution: (3 + 2 = 5 Marks)
The standard method of calculating a stock price using the perpetual dividend growth model is done by assessing a company’s dividend one year into the future adding the future expected growth rate. The formula is written as: P0 = D1/(Ke − g), where Ke is the investor required return, D1 is next year’s dividend and g is the
3.3 Calculating the costs of equity by the earnings capitalization ratio, and its advantages & disadvantages i. Calculation (based on EXIHIBIT 1&4) According to the earnings capitalization model, we have cost of equity = E1 / P0 = 2.16 / 42.09 = 5.13%
3.375(1 + r)-1 + 3.375 (1 + r)-2 + 3.375 (1 + r)-3 + ...…+ 3.375 (1 + r)-40+100(1 + r)-40 = 95.6