FIN534 Class Web Page, Fall '18
Jacksonville
University
Instructor:
Maggie Foley
Term Project (due in week 6) (references from prior semesters: 1 2 )
Business Finance Online, an interactive learning tool
for the Corporate Finance Student https://www.zenwealth.com/BusinessFinanceOnline/index.htm
Weekly
SCHEDULE, LINKS, FILES and Questions
Week |
Coverage, HW, Supplements -
Required |
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Miscellaneous |
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Week1 |
Marketwatch Stock Trading Game (Pass
code: havefun) (game will start on 10/22/2018
and will end on 12/5/2018) 1. URL for your
game: 2. Password for
this private game: havefun 3. Click on the 'Join Now' button to get
started. 4. If you are an
existing MarketWatch member, login.
If you are a new user, follow the link for a Free account - it's easy! 5. Follow the
instructions and start trading! Chapter 2 Financial Statements Topics in Chapter 2:
·
Experts explain:
Financial Statements (video) ·
Finviz.com/screener for
ratio analysis (https://finviz.com/screener.ashx) Chapter 3 Analysis of Financial Statements Topics in Chapter 3:
·
DuPont identity: video
ROE = (net income / sales) * (sales / assets) * (assets /
shareholders' equity) This equation for ROE breaks it into three widely used and
studied components: ROE = (net profit margin) * (asset turnover) * (equity
multiplier) Nike Income Statement (values in 000's)
Nike Balance Sheet (values in 000's)
Nike Cash Flow Statement (values in 000's)
Nike Stock price
chart in the past four years
Between Nike and GoPro, which company is
worth investing? But are you sure? Is GoPro over-valued? Or under-valued? And
what about Nike? Homework of Week 1 – No homework assignment FYI: Below are Benjamin Graham’s seven time-tested
criteria to identify strong value stocks.
https://cabotwealth.com/daily/value-investing/benjamin-grahams-value-stock-criteria/Value Stock Criteria List:
VALUE CRITERIA #1:
Look for a quality rating that is average or
better. You don’t need to find the best quality companies–average
or better is fine. Benjamin Graham recommended using Standard & Poor’s rating system and required companies to have an S&P
Earnings and Dividend Rating of B or better. The S&P rating system ranges
from D to A+. Stick to stocks with ratings of B+ or better, just to be
on the safe side. VALUE CRITERIA #2:
Graham advised buying companies with Total Debt
to Current Asset ratios of less than 1.10. In value investing it is important
at all times to invest in companies with a low debt load. Total Debt to
Current Asset ratios can be found in data supplied by Standard & Poor’s, Value Line, and many other services. VALUE CRITERIA #3:
Check the Current Ratio (current assets divided
by current liabilities) to find companies with ratios over 1.50. This is a
common ratio provided by many investment services. |
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http://www.jufinance.com/10k/bs http://www.jufinance.com/10k/is http://www.jufinance.com/10k/cf Ratio Analysis (plus balance sheet, income statement) https://www.jufinance.com/ratio GoPro Income Statement (values in 000's)
GoPro Balance Sheet (values in 000's)
GoPro Cash flow Statement (values in 000's)
GoPro Stock price
chart in the past four years GoPro ---
VALUE CRITERIA #4:
Criteria four is simple: Find companies with positive earnings per share growth during the past five years with no earnings deficits. Earnings need to be higher in the most recent year than five years ago. Avoiding companies with earnings deficits during the past five years will help you stay clear of high-risk companies. VALUE CRITERIA #5:
Invest in companies with price to earnings per share (P/E) ratios of 9.0
or less. Look for companies that are selling at bargain prices. Finding
companies with low P/Es usually eliminates high growth companies, which
should be evaluated using growth investing techniques. VALUE
CRITERIA #6:
Find companies with price to book value (P/BV) ratios less than 1.20.
P/E ratios, mentioned in rule 5, can sometimes be misleading. P/BV ratios are
calculated by dividing the current price by the most recent book value per
share for a company. Book value provides a good indication of the underlying
value of a company. Investing in stocks selling near or below their book
value makes sense. VALUE
CRITERIA #7:
Invest in companies that are currently paying dividends. Investing in
undervalued companies requires waiting for other investors to discover the
bargains you have already found. Sometimes your wait period will be long and
tedious, but if the company pays a decent dividend, you can sit back and
collect dividends while you wait patiently for your stock to go from
undervalued to overvalued. One last thought. We like to find out why a stock is selling at a bargain price. Is the company competing in an industry that is dying? Is the company suffering from a setback caused by an unforeseen problem? The most important question, though, is whether the company’s problem is short-term or long-term and whether management is aware of the problem and taking action to correct it. You can put your business acumen to work to determine if management has an adequate plan to solve the company’s current problems. |
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Week 2 |
Chapter 1 An Overview of Financial Management Concepts: Primary market vs. secondary market Money market security vs. stock vs. bond Goal of a corporation IPO vs. SEO vs. Going private NYSE vs. NASDAQ Agency problem Investment bank vs. commercial bank Intrinsic value vs. market value FCF vs. Earning Let’s focus on Amazon,
Apple, and Tesla. 1.
The history of the three
firms? Who provide capitals to them before they went for IPO? 2.
When do they IPO? SEO?
Do they have debts? 3.
Any differences in board
structure among the three firms? CEO? Do you trust them? Any agency problems
in those firms? What can you do to eliminate the agency problems? 4.
Their WACC? Which one
has the highest WACC? The lowest one? Make sense? 5.
Their intrinsic value? Market
value? Let’s give it a try to
calculate the intrinsic values of the three firms using the above equation.
What is your conclusion? Free Cash Flow of Amazon https://www.zacks.com/stock/chart/AMZN/fundamental/free-cash-flow-ttm
https://www.marketwatch.com/investing/stock/amzn/financials/cash-flow Note: The Company's trailing twelve month (TTM)
Free Cash Flow is a measure of financial performance and represents the cash
that a company is able to generate after factoring the money required to
maintain or expand its asset base. Free cash flow is important because it
allows a company to pursue opportunities that enhance shareholder value. Free Cash Flow = net income +
depreciation and amortization - capital expenditures. 6. Read the attached article about Amazon and
its acquisition of whole food. Do you think that it is a value creation deal?
Or opposite? If you have Amazon stocks, do you vote for this deal or not? Whole foods and Jana
Harvard Business Case Study (FYI) 7. Apple acquires Tesla. Do you think that it
is possible? 8. How can a firm increase its intrinsic
value? Its market value? Apple not buying stake in
Tesla would be 'biggest mistake of Tim Cook's career': Strategist (video)
9. What is the role of hedge funds?
Investment banks? Other shareholder activists? 10. The role of the government? The
government just gave its explanation for appealing the $85 billion
AT&T-Time Warner merger (video)
11. The stocks are changing hands among
investors in the secondary market, not in the primary market. Why are CEOs so
worried for stock market performance? 12. Why do firms borrow for long term in bond
market, not for short term from banks? Homework Questions on Page 54 (due with mid term) 1(a-i), 2, 3, 4, 5, 6, 7, 8, 10 (as follows) (1-1)
Define each of the following terms: a. Proprietorship; partnership; corporation;
charter; bylaws b. Limited partnership; limited liability partnership;
professional corporation c. Stockholder wealth maximization d. Money market;
capital market; primary market; secondary market e. Private markets; public
markets; derivatives f. Investment bank; financial services corporation;
financial intermediary g. Mutual fund; money market fund h. Physical location
exchange; computer/telephone network i. Open outcry auction; dealer market;
automated trading (1-2)
What are the three principal forms of business organization? What are
the advantages and disadvantages of each? (1-3)
What is a firm’s fundamental
value (which is also called its intrinsic value)? What might cause a firm’s
intrinsic value to be different from its actual market value? (1-4)
Edmund Corporation recently made
a large investment to upgrade its technology. Although these improvements
won’t have much of an impact on performance in the short run, they are
expected to reduce future costs significantly. What impact will this
investment have on Edmund’s earnings per share this year? What impact might
this investment have on the company’s intrinsic value and stock price? (1-5)
Describe the ways in which capital can be transferred from suppliers of
capital to those who are demanding capital. (1-6)
What are financial intermediaries, and what economic functions do they
perform? (1-7)
Is an initial public offering an example of a primary or a secondary
market transaction? (1-8)
Contrast and compare trading in face-to-face auctions, dealer markets,
and automated trading platforms. (1-9)
What are some similarities and differences between the NYSE and the
NASDAQ Stock Market? Chapter 4 Time Value of Money Topics: n Future Value and Compounding n Present Value and
Discounting n Rates of Return/Interest
Rates n Amortization Summary of this chapter ·
Time value of money is
regarded as the most basic and the most important knowledge for finance.
There are five factors associated with the time value of money: interest
rate, time remaining for investment, periodical payment, present value, and
future value. Any of these four values can be considered while trying to
identify the fifth aspect, by using equations, calculators, or Excel
worksheet. Examples can be viewed on the powerpoint slides. ·
Let us focus on the amortization table.
The template is available. ·
Anytime
you want to get a loan to buy a car or a house;
you can request a copy of the amortization table from your banker. The
table shows you the value of your
monthly payments, and you will be able to determine from each payment, the value
of interest charged and how much will be paid
into your account. Furthermore, from the table, you can determine the remaining balance of the loan
for the subsequent months. ·
How to generate an amortization table
independently? ·
You can use this template. ·
The input information should be included in
the top part of this template. The APR is the annual percentage rate. The
frequency refers to how many times the value is
compounded in a year. The loan
amount is the total value of the loan. The loan term refers to the duration
of the loan. After analyzing the input segment, the analysis section will
show the periodical rate and the total number of periods for the loan as well as the periodical payment. ·
The last part of this table represents the
actual amortization table. The initial balance shows the value of the loan
before a payment is made. The next
column shows the periodic payment. It is the fixed amount of the different periods. The interest
payment indicates how much is paid as
interest. It is calculated by
multiplying the initial balance by the periodic interest rate. Since the loan
balance is reduced after each payment,
the interest payment also reduces. The section repayment of principal
indicates how much is paid into your
account. It is the difference between the periodic payment and the payments
made as interest. The ending balance shows the remaining debt. It is the
difference between the initial balance and the repayment of principal. The ending balance will eventually become
zero after all the scheduled payments have been
made. ·
The time value of money - German Nande (video
https://www.youtube.com/watch?v=MhvjCWfy-lw
NPV
calculator (FYI) NFV calculator (FYI) Time Value of Money Calculator (FYI) Homework
of Chapter 4 (due with mid term) n Questions on P183: 1: e, g, h, i, j; 4, 5 n Problems on P184: 1, 2, 3, 4, 16, 17, 19, 27, 29 (You can use formula/financial calculator/spreadsheet: for each question one approach is
enough. You may use multiple
approaches to double check.) n Develop an Amortization Schedule in Excel: 5-year Auto Loan of $30,000 with APR 3% (use the home mortgage loan example in course materials as a template) Page
183: (4-1) Define each of the following terms: e. Perpetuity; consol g. Compounding; discounting h. Annual,
semiannual, quarterly, monthly, and daily compounding i. Effective annual
rate (EAR or EFF%);nominal (quoted) interest rate; APR; periodic rate (4-4)
If a firm’s earnings per share grew from $1 to $2
over a 10-year period, the total growth
wouldbe100%,buttheannualgrowthratewouldbelessthan10%.Trueorfalse?Explain. (4-5)
Would you rather have a savings account that pays 5% interest compounded semiannually
or one that pays 5% interest compounded daily? Explain Page
184: 1.
If
you deposit $10,000 in a bank account that pays 10% interest annually, how
much will be in your account after 5 years? 2.
What is the present
value of a security that will pay $5,000 in 20 years if securities of equal
risk pay 7% annually? 3.
Your parents will retire
in18 years. They currently have$250,000, and they think they will need $1
million at retirement. What annual interest rate must they earn to reach
their goal, assuming they don’t save any additional
funds? 4.
If you deposit money
today in an account that pays 6.5% annual interest, how long will it take to
double your money? 16.
Find the amount to which $500 will grow under each of the following
conditions. a. 12% compounded annually for 5 years b. 12% compounded
semiannually for 5 years c. 12% compounded quarterly for 5 years d. 12%
compounded monthly for 5 years 17.
Find the present value of $500 due in the future under each of the following
conditions. a. 12% nominal rate, semiannual compounding, discounted back 5
years b. 12% nominal rate, quarterly compounding, discounted back 5 years c.
12% nominal rate, monthly compounding, discounted back 1 year 19.
Universal Bank pays 7% interest, compounded annually, on time deposits. Regional
Bank pays 6% interest, compounded quarterly. a. Based on effective interest
rates, in which bank would you
prefer to deposit your money? b. Could
your choice of banks be influenced by the fact that you might want to
withdraw your funds during the year as opposed to at the end of the year? In
answering this question, assume that funds must be left on deposit during an
entire compounding period in order for you to receive any interest. 27.
What is the present value of a perpetuity of $100 per year if the appropriate
discount rate is 7%? If interest rates in general were to double and the
appropriate discount rate rose to 14%, what would happen to the present value
of the perpetuity? 29.
Assume that your aunt sold her house on December 31, and to help close the
sale she took a second mortgage in the amount of $10,000 as part of the
payment. The mortgage has a quoted (or nominal) interest rate of 10%;it calls
for payments every 6 months, beginning on June30, and is to be amortized over
10 years. Now, 1yearlater, your aunt must inform the IRS and the person who
bought the house about the interest that was included in the two payments
made during the year. (This interest will be income to your aunt and a
deduction to the buyer of the house.) To the closest dollar, what is the
total amount of interest that was paid during the first year? |
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FYI: Amazon.com Inc. (AMZN) https://www.stock-analysis-on.net/NASDAQ/Company/Amazoncom-Inc/DCF/Present-Value-of-FCFF
Present Value of Free Cash Flow to
the Firm (FCFF)
In
discounted cash flow (DCF) valuation techniques the value of the stock is
estimated based upon present value of some measure of cash flow. Free cash
flow to the firm (FCFF) is generally described as cash flows after direct
costs and before any payments to capital suppliers.
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Week 3 |
Chapter 5 Bond, Bond Valuation and Interest Rates For class discussion: ·
Name major categories of
bonds As an investor, which type of bond is your
favorite one? Why? ·
Why we say that bond is
safer than stock? How to calculate bond market prices? Where can you find
bond price information? Bond
calculator here (www.jufinance.com/bond) ·
What are the key
determinants to bond valuation? ·
What is current yield?
Capital gain yield? Yield to call? ·
What is premium bond?
Discount bond? Between premium bond and discount bond, which one might be
called back? Which one will not be called back? ·
Once we know the yield
to maturity (YTM) of a bond, we can calculate its price. But how to figure
out YTM? ·
How is each component in
the above slide? ·
How to calculate IP?
What is TIPS? ·
What is interest rate
risk? What is reinvestment risk? Compare the risks between a short term bond
and a long term bond, ·
What is bond rating? Do you know z score? How
the credits are assigned? It is based on z
score. (FYI) The ratios are combined in a
function known as the Z-score that yields a score for each company. The
equation for calculating Zscores is as follows: Z = α + where a is a constant, Ri the
ratios, βi the relative weighting applied to ratio Ri and n the number
of ratios used. ·
Overall, bond yield
should look like the following. MRPt = 0.1%
(t – 1) Homework
of Chapter 5 (due with mid term) n Questions on P231: 1 a, b, d,
f, g, h, i, j, k, l. 2, 3; n Problems on P232: 1, 7, 12,
13. Page 231 (5-1) Define each of the following terms: a. Bond; Treasury bond; corporate bond; municipal bond; foreign bond b. Par value; maturity date; coupon payment; coupon interest rate d. Call provision; redeemable bond; sinking fund f. Premium bond; discount bond g. Current yield (on a bond); yield to maturity (YTM); yield to call (YTC) h. Indentures; mortgage bond; debenture; subordinated debenture i. Development bond; municipal bond insurance; junk bond; investment-grade bond j. Real risk-free rate of interest, r ; nominal risk-free rate of interest, rRF k. Inflation premium(IP);default risk premium(DRP); liquidity; liquidity premium(LP) l. Interest rate risk; maturity risk premium (MRP); reinvestment rate risk (5-2) “Short-term interest rates are more volatile than long-term interest rates, so short-term bond prices are more sensitive to interest rate changes than are long-term bond prices.” Is this statement true or false? Explain. (5-3) The rate of return on a bond held to its maturity date is called the bond’s yield to maturity. If interest rates in the economy rise after a bond has been issued, what will happen to the bond’s price and to its YTM? Does the length of time to maturity affect the extent to which a given change in interest rates will affect the bond’s price? Why or why not? Page 232: 5-1 Jackson Corporation’s bonds have 12 years remaining to maturity. Interest is paid annually, the bonds have a $1,000 par value, and the coupon interest rate is 8%. The bonds have a yield to maturity of 9%. What is the current market price of these bonds? 5-7 Renfro Rentals has issued bonds that have a 10% coupon rate, payable semiannually. The bonds mature in 8 years, have a face value of $1,000, and a yield to maturity of 8.5%. What is the price of the bonds? 5-12 A 10-year, 12% semiannual coupon bond with a par value of $1,000 may be called in 4 years at a call price of $1,060. The bond sells for $1,100. (Assume that the bond has just been issued.) a. What is the bond’s yield to maturity? b. What is the bond’s current yield? c. What is the bond’s capital gain or loss yield? d. What is the bond’s yield to call? 5-13 You just purchased a bond that matures in 5 years. The bond has a face value of $1,000 and has an8% annual coupon. The bond has a current yield of 8.21%.What is the bond’s yield to maturity? Chapter 6 Risk and Return: High risk, high return. Right/Wrong? ·
How to calculate risk of an individual
stock, like WMT? Example: 1.
Realized return Holding period return
(HPR) = (Selling price – Purchasing price + dividend)/ Purchasing price HPR
calculator (www.jufinance.com/hpr) 2.
Expected return of this
stock and its standard deviation Expected return and risk (standard
deviation) calculator (www.jufinance.com/return) · A portfolio of two
stocks, like WMT and Amazon? Portfolio Calculator (www.jufinance.com/portfolio) –
see equations below Equation: W1 and W2 are the percentage
of each stock in the portfolio.
·
A portfolio of three stocks, like WMT,
Amazon, and APPLE? Three stocks is the sum of
three pairs of two-stock-portfolio. So same as above but repeat it three
times. ·
What about a diversified portfolio, with
25 stocks? n As more stocks are added, each new stock
has a smaller risk-reducing impact on the portfolio. n sp falls very slowly after
about 40 stocks are included. The
lower limit for sp is about 20% = sM (M: market
portfolio). n By forming well-diversified portfolios,
investors can eliminate about half the risk of owning a single stock. n Market risk is that part of a security’s
stand-alone risk that cannot be eliminated by diversification. n Firm-specific, or diversifiable, risk is that
part of a security’s stand-alone risk that can be eliminated by
diversification. CAPM model (CAPM
calculator) 1. What is Beta? Where to find Beta? 2. Why can we use beta as measure for risk? 3. What is three month Treasurye bill’s beta?
S&P500 index’s beta? WMT’s beta? Amazon’s beta? Why are they different? 4. Use CAPM to calculate the expected return
of the above stocks 5. Find those stocks in SML 6.
What is market
efficiency? Do you agree with the hypothesis that market is efficient? Do you
have any evidence to disapprove it? Homework
of Chapter 6 (due with mid term) Questions
on P284:1(a, b, d, f, g, h, i, j, k, l, m), 3; Problems
on P286:1, 2, 3, 5, 10. Page 284 (6-1) Define the following terms,
using graphs or equations to illustrate your answers where feasible. a. Risk in general; stand-alone risk;
probability distribution and its relation to risk b. Expected rate of return, r ^ c. Continuous probability distribution d. Standard deviation, σ; variance,
σ2 f. Risk premium for Stock i, RPi; market
risk premium, RPM g. Capital Asset Pricing Model (CAPM) h. Expected return on a portfolio, r ^ p;
market portfolio i. Correlation as a concept; correlation
coefficient, ρ j. Market risk; diversifiable risk;
relevant risk k. Beta coefficient, b; average stock’s
beta l. Security Market Line (SML); SML
equation m. Slope of SML and its relationship to
risk aversion Page 286 6-1 Your investment club has only two
stocks in its portfolio. $20,000 is invested in a stock with a beta of 0.7,
and $35,000 is invested in a stock with a beta of 1.3.What is the
portfolio’s beta? 6-2 AA Corporation’s stock has a beta of
0.8. The risk-free rate is 4% and the expected return on the market is 12%.
What is the required rate of return on AA’s stock? 6-3 Suppose that the risk-free rate is 5%
and that the market risk premium is 7%. What is the required return on (1)
the market, (2) a stock with a beta of 1.0, and (3) a stock with a beta of
1.7? 6-5 A stock’s return has the following
distribution:
Calculate the stock’s expected return and
standard deviation 6-10 Suppose you manage a $4 million fund
that consists of four stocks with the following investments:
If the market’s required rate of return is
14% and the risk-free rate is 6%, what is the fund’s required rate of return? |
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FYI
What is yield curve? ( http://www.yieldcurve.com/MktYCgraph.htm) Market watch on Wall Street Journal has daily yield curve and
interest rate information. http://www.marketwatch.com/tools/pftools/ Draw yield curve yourself using the following information
·
What can yield curve
tell us? What is yield
curve, video (youtube) Daily Treasury Yield
Curve Rates
Summary of Yield Curve
Shapes and Explanations Normal Yield Curve Steep Curve – Economy is improving Inverted Curve – Recession is coming
To
become inverted, the yield curve must pass through a period where
long-term yields are the same as short-term rates. When that happens the
shape will appear to be flat or, more commonly, a little raised in the
middle. Unfortunately, not all
flat or humped curves turn into fully inverted curves. Otherwise we'd all get
rich plunking our savings down on 30-year bonds the second we saw their
yields start falling toward short-term levels. On the other hand, you
shouldn't discount a flat or humped curve just because it doesn't guarantee a
coming recession. The odds are still pretty good that economic slowdown and
lower interest rates will follow a period of flattening yields. What You Can Learn from the Yield
Curve (FYI) A flattening trend often
is a red flag, but experts warn against betting on short-term market swings. By Jeff Brown, Contributor Sept. 10, 2018, at 10:23 a.m. Why Investors Watch the Yield Curve (FYI) SHORT-TERM interest rates have
been inching up faster than long-term rates, a condition called a
"flattening yield curve" that for decades has predicted recessions
and put investors into a quandary. What should
investors do? The options range from nothing to changing holdings to
employing strategies to either grow or protect the portfolio, to putting
money on the sidelines for safe keeping. "The yield
curve is one of the single most effective recession indicators available to
us as investors, it is almost never wrong," says Patrick R. McDowell,
investment analyst at Arbor Wealth Management in Miramar Beach, Florida.
"We believe the yield curve will invert in the next 12 months," he
says. "Every U.S.
recession in the past 60 years was preceded by …. an inverted yield
curve," the Federal Reserve Bank of San Francisco says in a March 2018
study, adding that inverted curves have been followed by recessions in all
but one instance over that period. The yield curve is a
graph with bond
maturities on the horizontal axis and yields on the vertical
one. Most of the time short-term bonds have lower yields than long-term ones,
because investors demand more for tying their money up longer and exposing
their holdings to the unknown. The curve starts in the lower left and rises
steadily to the right as maturities and yields go up. But every so often
the gap between short- and long-term yields shrinks to almost nothing, and
sometimes the curve "inverts" so that short-term yields are higher.
The curve flattens rather than rising, or heads down instead of up. This tends to happen
when the Federal
Reserve pushes up the short-term interest rates it can
control while investors push down long-term yields because they expect the
Fed to reduce short-term yields in the future to stimulate the economy in a
downturn or recession. (Lower interest rates make it cheaper to borrow,
increasing spending to perk up the economy.) Long-term yields are
governed by supply and demand in the bond market and represent the combined
wisdom of vast numbers of bond investors. Currently, the
10-year Treasury note yields 2.9 percent, not much more than the two-year's 2.66
percent. Two years ago the rates were 1.55 percent and 0.74 percent.
Shrinking the gap from 0.81 to 0.24 may not seem earth shaking but is a red
flag on the economy. Though a recession
is likely if the curve inverts, this is not necessarily a bad time for
investors, says Craig Thompson, president of Asset Solutions in Lafayette,
Louisiana. "The yield
curve has not inverted yet and even when it does the lead time for a stock
market peak can be considerable," Thompson says. "Yet, it is
something to monitor given we are at the end of the current period of
economic expansion. So, yes, we are in a bull market and should be invested
in stocks. However, the bull market will not last forever and we are probably
at the tail end." Investors can react
in various ways depending on how much risk they
like to take. For income-oriented bond
investors the safe course is to load up on shorter-term bonds in the belief
long-term bonds no longer offer the extra income needed to justify the risk
of bad things happening before the bond matures. Compared to a two-year note,
a 10-year note entails much more risk that the economy could collapse, the
bond issuer could default, or that rising interest rates could make existing
bonds lose value as investors prefer newer ones that pay more. The damage from
rising rates is much more severe for long-term bonds because the consequences
last so much longer. Bond risk can be
measured with duration, a figure that indicates how much value a bond or bond
fund could lose for every one-percentage point rise in prevailing interest
rates. A bond with a 10-year duration could lose 10 percent, while one with a
two-year duration only 2 percent. "Investors
should continue to keep duration low and [hold] high-quality investment-grade
bonds … to help hedge against rising rates in the future," says Jordan
Niefeld, planner with Raymond James & Associates in Aventura, Florida. He
also recommends keeping cash on the sidelines to weather market jolts. "An individual
investor should look at the bonds they own and make sure they mature within
three to five years," says Alan J. Conner, president of NovaPoint
Capital in Atlanta. "These bonds will provide the best combination of
relatively high interest rates and lower interest-rate risk, allowing
investors to wait out this transition period, and perhaps invest at higher
rates as the yield curve normalizes." On the other hand,
investors who move quickly enough can bet that long-term yields will fall
further as the curve flattens even more and then inverts. Falling interest
rates push existing bond prices up because investors would rather have older
bonds that pay more than newer ones. What Is a Flattening Yield
Curve? "People think
shortening their duration exposure is the appropriate response to a
flattening yield curve when in fact the opposite is true," McDowell
says. "If you could execute it seamlessly, you'd want to be shorting
short-term bonds and buying long-term bonds to bet on that type of yield curve
inversion, even though on an absolute [income-paying] basis short-term bonds
are much more attractive." The ultimate play,
he says, is to buy long-duration zero-coupon
bonds, which deliver their accumulated interest earnings only when
the bond matures. These bonds are extremely sensitive to interest rate
changes and can be very profitable if rates fall – but are big losers if
rates go up. Betting on price changes
from changing yields is speculative, perhaps not the best option, many
experts say, for investors using bonds for income or to reduce the ups and
downs of a portfolio that also has stocks. As for equities, a
flattening yield curve may forecast a slower economy, which can hurt
corporate earnings and stock prices, but that doesn't necessarily mean
stockholders should run for the exits, says Brenda Wenning, principal of
Wenning Investments in Newton, Mass "The stock
market has produced gains in four of the last five periods when the yield
curve inverted," she says. "Going back to 1978, the S&P 500 has
risen about 16 percent in the 18 months following an inversion, according to
a new analysis by Credit Suisse. Over 24 months following an inversion, stocks
rose an average of 14 percent and over 30 months, they rose an average of 9.5
percent." The likely reason:
stocks are a bet on the future and investors bid up prices when they
anticipate higher corporate profits after a recession ends. The anxious stock investor's
most obvious choice is to play it safe in uncertain times by trimming stock
holdings and putting the proceeds on the sidelines as cash. But advisors
generally warn against betting on short-term market swings and instead hanging on to
stocks through a recession to enjoy the rebound that follows. Wenning says
investors should not be alarmed. "While other
factors point to a potential slowdown in the fourth quarter, it appears that
a recession remains far away, even if the yield curve inverts," she
says. Opinion: Fed
officials are playing with fire if they deliberately invert the yield curve
(FYI) Published: Sept 18, 2018 4:22 p.m. ET By Carline Baum The converts are lining up. First it was John Williams, who left his perch atop the
Federal Reserve Bank of San Francisco in June to assume the presidency of the
New York Fed. In April, Williams acknowledged that an inverted yield curve
is “a powerful signal of
recessions,” based on a significant body of research,
including that by staff economists at his former bank. By September, Williams was already disavowing that signal. “I don’t see the flat yield curve or inverted yield curve as
being the deciding factor in terms of where we should go with policy,”
Williams said following a speech in Buffalo on Sept. 6. Next up was Fed Gov. Lael Brainard. She broke new ground in a speech last
week when she said she expects the short-run neutral rate of interest — the
unobservable interest rate that keeps the economy growing at its potential —
to rise above the Fed’s projected long-run equilibrium rate of about 3% as a
result of fiscal stimulus. Then she invoked the four most dangerous words in finance —
“this time is different” — and applied them to the prospect of an inverted
yield curve. The spread between the 10-year Treasury note and the federal
funds rate is still positive, but further rate hikes by the Fed could push
the fed funds rate higher than the 10-year yield, inverting the yield curve
and signaling a recession. While “attentive to the historical observation” that
inversions of the term structure of interest rates had a reliable track
record of preceding recessions in the U.S., Brainard implied that this time
is different because: 1) long-term rates are much lower now than they were
during previous economic expansions; and 2) the term premium is very low.
(The term premium is the extra compensation investors demand for holding a
long-term Treasury security such as a 10-year note TMUBMUSD10Y, -1.28%
instead of one that matures in months.) San Francisco Fed economists Michael Bauer and Thomas Mertens
shot down the term-premium argument, finding “no clear
evidence” that it affects the predictive power of an inverted curve. And the
low level of long-term rates was a popular excuse for why “this time was
different” when the term spread inverted in mid-2006. The significance of an inverted yield curve was even a topic of
discussion at the Fed’s July 31-Aug. 1
meeting. “Several participants” advised paying attention
to the curve in assessing the economic and policy outlook. “Other
participants” said it was inappropriate to infer “causality from statistical
correlations.” Forget statistical correlations. What’s important is the
intuition behind the yield curve: What it says, and why it works. The juxtaposition of
an artificially pegged short-term rate and a market-determined long-term rate
is a succinct expression of the stance of monetary policy. (For simplicity’s
sake, I will ignore interest on excess reserves, which the Fed also sets, and
focus on the Fed’s old-fashioned system of reserve management.) The overnight interbank lending rate is set by the Fed, which
adjusts the supply of reserves to meet the banking system’s demand. (Banks are required to hold reserves as vault cash or as
deposits at a Fed bank on demand deposits and checking accounts.) If the Fed
supplies fewer/more reserves than the banking system demands, the funds rate
will rise/fall. Imagine a situation where the economy is strong, market rates
are rising across the curve and the fed funds rate is steady. It’s fair to
assume that increased demand for credit would be pushing up the overnight
rate as well were it not for the Fed’s largesse. In other words, a steeper
curve equates with an expansionary monetary policy. Similarly, if the Fed is raising the funds rate — restricting
the supply of credit — and market rates begin to decline, eventually
breaching the overnight rate, one can be pretty sure that the Fed is running
a restrictive monetary policy. Recession is the result. These two interest rates encapsulate the stance of monetary
policy. As an indicator, it’s about as simple as it gets. It’s available 24/7
to anyone who is interested and is never revised. The term spread was pretty much ignored in previous business
cycles. Now, it’s the talk of the town, in all its permutations. Any two market rates — 2s/10s, 5s/30s — are game even though
those spreads lack the intellectual rigor of the fed funds/10-year spread or,
using a proxy for the overnight rate, the 3-month/10-year spread, which Bauer
and Mertens say works best. Many of the Fed district bank presidents — including St. Louis’s James Bullard,Atlanta’s
Raphael Bostic, Dallas’ Robert Kaplan, Philadelphia’s Patrick
Harker and Minneapolis’ Neel Kashkari — have expressed
confidence in the predictive power of the yield curve. In recent months, all
of them have said they want to avoid precipitating an inversion of the curve. We have yet to hear anything definitive from Fed Chairman Jay
Powell on whether he would view an inverted curve as a form of “forward
guidance” in setting policy. We know he’s not married to the model, an least
an econometric one. In his speech at Jackson Hole
last month, he said that setting monetary policy based on
unknowable and ever-changing metrics — the natural rate of unemployment, the
neutral rate of interest — is challenging. Short of any break-out of
inflation expectations or unforeseen crisis, gradualism remains Powell’s
preferred approach. What we have yet to learn is whether Fed gradualism will be
aborted if and when it runs into resistance from long-term rates. |
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Week 4 |
Midterm Exam |
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Week 4 |
Chapter 7 Valuation of Stocks and Corporations For class discussion: ·
What is dividend growth model? Why can we
use dividend to estimate a firm’s intrinsic value? ·
Are future dividends predictable? ·
Refer to the following table for WMT’s
dividend history http://stock.walmart.com/investors/stock-information/dividend-history/default.aspx
Can you estimate the expected dividend in
2019? And in 2020? And on and on… Can you write down the math equation
now? WMT stock price = ? Can you calculate now? It is hard
right because we assume dividend payment goes to infinity. How can we
simplify the calculation? We can assume that dividend grows at
certain rate, just as the table on the right shows. Discount rate is r (based on Beta and
CAPM learned in chapter 6) Details
about how to derive the model mathematically (FYI) The Gordon growth model is a simple discounted cash flow (DCF)
model which can be used to value a stock, mutual fund, or even the entire
stock market. The model is named after Myron Gordon who first published
the model in 1959. The Gordon model assumes that
a financial security pays a periodic dividend (D) which
grows at a constant rate (g). These growing dividend payments are
assumed to continue forever. The future dividend payments are discounted at
the required rate of return (r) to find the price (P) for the stock
or fund. Under these
simple assumptions, the price of the security is given by this equation: In this equation, I’ve used the “0”
subscript on the price (P) and the “1” subscript on the dividend (D) to indicate that the price
is calculated at time zero and the dividend is the expected dividend at the
end of period one. However, the equation is commonly written with these
subscripts omitted. Obviously, the assumptions
built into this model are overly simplistic for many real-world
valuation problems. Many companies pay no dividends, and, for those that
do, we may expect changing payout ratios or growth rates as the
business matures. Despite these limitations, I
believe spending some time experimenting with the Gordon model can help
develop intuition about the relationship between valuation and return. Deriving the Gordon Growth Model
Equation
The Gordon growth model
calculates the present value of the security by summing an infinite series of
discounted dividend payments which follows the pattern shown here: Multiplying both sides of the
previous equation by (1+g)/(1+r) gives: We can then subtract the
second equation from the first equation to get: Rearranging and simplifying: Finally, we can simplify
further to get the Gordon growth model equation dividend growth model: Refer to http://www.calculatinginvestor.com/2011/05/18/gordon-growth-model/ ·
Now let’s apply this Dividend growth model in problem solving. Dividend Growth Model calculator (www.jufinance.com/stock) Homework
of Chapter 7 (due with final) n Questions
on P333: 7-1(aefgh), 7-3; n Problems on P334: 7-2, 7-3, 7-4, 7-8, 7-9,
7-14. *****Q&A Session***** |
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P/E Ratio Summary by industry (FYI) (http://pages.stern.nyu.edu/~adamodar/New_Home_Page/datafile/pedata.html
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Week 5 |
Thanksgiving holiday. No class this week. |
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Week 6 |
Chapter 9 The Cost of Capital For class discussion: What is WACC? Why is it important? WACC increases, good or bad to
stock holders? How to apply WACC to figure
out firm value? What is DCF? One option (if beta is
given) Another option (if
dividend is given): WACC Formula WACC calculator (without
preferred stock) (www.jufinance.com/wacc)
WACC calculator (with
preferred stock) (www.jufinance.com/wacc_1) Homework
of Chapter 9 (due with final) ·
Questions on Page 406: 9-1, 9-2. ·
Mini Case on Page 411: a, b, c, d,
e(1&2), f, g, h, i, n, o(1). Chapter 10 The Basics of Capital Budgeting Math
equation: Math
equation: Math
equation: NPV,
IRR, Payback Period calculator (www.jufinance.com/npv) Homwork
of Chapter 10 (due with final) · Questions on P442: 10-1 a(skip discounted payback
period), b, c(skip profitability index), f; 10-2. · Problems on P443: 10-1, 10-2, 10-5, 10-9. |
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FYI As of today,
Walmart Inc's weighted average cost of capital is 5.54%. Walmart
Inc's ROIC % is 11.05% (calculated
using TTM income statement data). Walmart Inc generates higher returns on
investment than it costs the company to raise the capital needed for that
investment. It is earning excess returns. A firm that expects to continue
generating positive excess returns on new investments in the future will see
its value increase as growth increases. https://www.gurufocus.com/term/wacc/WMT/WACC/Walmart%2BInc Amazon.com
Inc (NAS:AMZN) WACC %:14.27% As of Today As of today,
Amazon.com Inc's weighted average cost of capital is 14.27%.
Amazon.com Inc's ROIC % is 31.08% (calculated
using TTM income statement data). Amazon.com Inc generates higher returns on
investment than it costs the company to raise the capital needed for that
investment. It is earning excess returns. A firm that expects to continue
generating positive excess returns on new investments in the future will see
its value increase as growth increases. https://www.gurufocus.com/term/wacc/AMZN/WACC-Percentage/Amazon.com%20Inc Apple
Inc (NAS:AAPL) WACC %:9.34% As of Today As of today,
Apple Inc's weighted average cost of capital is 9.34%. Apple
Inc's ROIC % is 34.64% (calculated
using TTM income statement data). Apple Inc generates higher returns on
investment than it costs the company to raise the capital needed for that
investment. It is earning excess returns. A firm that expects to continue
generating positive excess returns on new investments in the future will see
its value increase as growth increases. https://www.gurufocus.com/term/wacc/AAPL/WACC/Apple%2Binc
http://people.stern.nyu.edu/adamodar/New_Home_Page/datafile/wacc.htm |
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Week 7 |
Chapter 11 Cash Flow Estimation and Risk Analysis 11-2: an expansion project Detail: Project L is the application of a
radically new liquid nano-coating technology to a new type of solar water
heater module, which will be manufactured under a 4-year license from a
university. In this section, we show how these cash flows are estimated (we
only show this for Project L here). It’s not clear how well the water heater
will work, how strong demand for it will be, how long it will be before the
product becomes obsolete, or whether the license can be renewed after the
initial 4 years. Still, the water heater has the potential for being
profitable, though it could also fail miserably. GPC is a relatively large
company and this is one of many projects, so a failure would not bankrupt the
firm but would hurt profits and the stock’s price. Information given as blow: ·
Units sold at year 1: 10,000; increase by 15% after year 1; ·
Unit sales price at year 1: $1.50; increase by 4% after year
1; ·
Variable cost per unit at year 1: $1.07; increase by 3% after
year 1; ·
Fixed cost at year 1: $2,120; increase by 3% after year 1; ·
Net working capital requirement o
NWCt = 15%(Salest+1) ·
Tax rate = 40%. ·
Project cost of capital (WACC) = 10%.
Questions for discussion: How to calculate OCF (operating cash
flow)? OCF = (Sales Revenue – COGS –
SG&A – Depreciation)*(1-T) + Depreciation = EBIT *(1-T) + Depreciation = Net Operating Profit after Taxes +
Depreciation What is incremental cash flow? What is sunk cost? Example? Included in
the cash flow? What is opportunity cost? Example?
Included in the cash flow? Do you prefer companies that are stingy to
give back to investors, to those that
are generous? Homework
of Chapter 11 Questions
on P487: 11-1abc, 11-2, 11-3, 11-4, 11-5, 11-7, 11-8, 11-9. Chapter
14 Distribution to Shareholders:
Dividends and Repurchases IMPORTANT MUST
KNOW DIVIDEND DATES! | Dividend Investing 101 (video)
https://www.nasdaq.com/symbol/wmt/dividend-history Ex-dividend dates
for December 05, 2018
https://www.nasdaq.com/dividend-stocks/dividend-calendar.aspx?date=2018-Dec-05 Homework
of Chapter 14 Questions
on P600: 14-1 (except f), 14-3, 14-5 (except c); Problems
on P602: 14-5, 14-7, 14-9. |
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Battle of
Dividends: McDonald's vs. Walmart (FYI) It's a close battle,
but one comes out ahead. Daniel Sparks Sep 19, 2018 at 11:47AM Unlike many growth stocks, dividend stocks can provide
investors returns in two ways. Like a growth stock, the per-share value can appreciate
over time. But what makes a good dividend stock different from the typical
growth stock is its meaningful dividend payments. Through the day-to-day,
month-to-month, and even year-to-year volatility that stocks often see, good
dividend stocks continue paying solid dividends through thick and thin. Two companies that exemplify
consistency in their dividend payments are Walmart (NYSE:WMT)and McDonald's (NYSE:MCD).
These two iconic dividend stocks have not only paid dividends for more than
four decades, they've also increased their dividend payments every year since
declaring their first dividends. But which of these two dividend
stocks is a better bet for investors' money today? Read on to find out. Walmart
DATA
SOURCE: REUTERS AND MORNINGSTAR AND REUTERS. TABLE BY AUTHOR. Walmart's dividend is solid no
matter how you look at it. Not only does the company have a meaningful
dividend yield of 2.2%, but the company is notably only paying out 34% of its
free cash flow in dividends. This means Walmart's already juicy dividend
has plenty of room for growth. Then there's Walmart's impressive
dividend history. The company has paid dividends every year since its first
dividend in 1974. Further, Walmart has increased its dividend on an annual
basis since its first dividend was paid. Walmart continues to make dividend
increases a priority, boosting its payout by an average of 5.1% every year
over the past five years. The company's most recent dividend increase,
however, was very small. Walmart increased its dividend by just 2% last
year. Fortunately for dividend
investors, Walmart has recently been serving up strong underlying business
growth -- growth that can easily support further dividend increases.
Highlighting Walmart's healthy business, adjusted earnings per share rose 19% year over year in the
company's most recent quarter. McDonald's
DATA
SOURCE: REUTERS AND MORNINGSTAR AND REUTERS. TABLE BY AUTHOR. The one area McDonald's dividend doesn't
live up to Walmart's is when it comes to the percentage of cash it is paying
out in dividends. The fast-food company is already paying out 88% of free
cash flow, leaving less breathing room for its dividend. But McDonald's dividend is more
attractive when it comes to dividend yield and recent dividend growth. At
2.6%, McDonald's dividend yield is well ahead of Walmart's. In addition,
McDonald's average five-year growth rate for its dividend of 5.9% slightly
outpaces Walmart's dividend growth during this period. Similarly, the
fast-food king's 7% dividend increase last year is above Walmart's most
recent increase of 2%. In addition, McDonald's
longer-term dividend history is just as impressive as Walmart's, with
dividend payments and consecutive annual increases dating back to the
company's first dividend in 1976. Finally, McDonald's business is
growing nicely as well. The fast-food restaurant's adjusted earnings per
share increased 15% year over year in the company's most recent
quarter. The verdict Both of these dividend stocks
represent enduring companies with strong underlying businesses and
dividend-friendly capital allocation practices, making them each worth
further consideration. But
Walmart's recent stronger earnings momentum, combined with the greater wiggle
room for its dividend thanks to the fact that it is paying out just 34% of
free cash flow in dividends, makes the supermarket retailer's dividend
slightly more attractive. Sure, McDonald's has a higher dividend yield. But
there's less risk in Walmart's dividend ever taking a hit since the company
is paying out a lower portion of its annualized free cash flow in dividends. That
said, this was a close battle. https://www.fool.com/investing/2018/09/19/battle-of-dividends-mcdonalds-vs-walmart.aspx *** stock repurchase” For discussion: Shareholders will be better off
with a cash dividend or a stock buyback plan? What about the company? Useful
website (FYI): https://www.wallstreetmojo.com/share-repurchase-buyback-guide/ Wal-Mart's buyback is huge, but here's why you should not be chasing buybacks
(FYI) ·
Wal-Mart
is part of an elite group of large-cap companies I call "buyback
monsters" who have bought back huge amounts of their stock in the last
decade or so. Their ranks include IBM, Microsoft, Kohl's, Target, and Boeing. ·
What's
it mean? It means that these companies have dramatically boosted their
earnings, not by selling more stuff, but by buying back stock. ·
The
lesson: stock buybacks can boost earnings, but without underlying
fundamentals, it's not worth chasing them. Published 5:38 PM ET Tue, 10 Oct
2017 Updated 7:25 PM ET Tue, 10 Oct 2017CNBC.com Wal-Mart trading
volume was huge today, more than three times normal as investors love the
emphasis on e-commerce and another massive $20 billion buyback. You can buy a lot of Wal-Mart stock for $20 billion. It's
about 8 percent of the shares outstanding at the current price, but it
doesn't even come close to the biggest buybacks ever announced: Biggest buybacks ever GE (2015)
$50 billion Still, what's important is that Wal-Mart is part of an elite
group of large-cap companies I call "buyback monsters" that have
bought back huge amounts of their stock in the last decade or so. Their ranks
include IBM, Microsoft, Kohl's, Target, and Boeing: Buyback monsters Wal-Mart (since 2002) 30 percent What does it mean? It means that these companies have
dramatically boosted their earnings, not by selling more stuff, but by buying
back stock. It means that all other things being equal, Wal-Mart, for
example, has improved its earnings by 30 percent since 2002 just by buying
back stock. This sounds like a great deal for stock holders. But does
buying back stock really cause stock prices to outperform? If it really does
help boost earnings, why don't we just buy the companies that have bought
back the most stock? It's a tough question to answer, but, as with everything,
there's an ETF for that. And the evidence is it can be a big help, but
without improvement in fundamentals, investors are not going to be fooled. There are two ETFs that specialize in buybacks: The Powershares BuyBack Achievers Index (PKW)
is comprised of U.S. securities issued by corporations that have effected a
net reduction in shares outstanding of 5 percent or more in the trailing 12
months. And the SPDR Buyback Index (SPYB)
is designed to measure the performance of the top 100 stocks with the highest
buyback ratios in the S&P 500. OK, so far so good. What's the verdict? Buybacks vs. the markets S&P 500 up 13.8 percent Well, that's underwhelming. There is no outperformance. It's
the same if you go back two years. It's possible there are too many companies in the ETFs. Both
have over 100. But I think there's a bigger problem. Buybacks do not
guarantee stock price hikes. Just look at General Electric, which has bought back 15
percent of its stock just since the start of 2016. It's down 20 percent in
that same period. And look at Kohl's, Target, and IBM. Buyback monsters, all of
them, but the fundamentals are awful, and buybacks did not save them. All
three are down double-digits this year. In contrast, Apple's business has been great, as has
Microsoft. Both are also buyback monsters, and they are up huge this year. The lesson: Stock buybacks can boost earnings, but without
underlying fundamentals, it's not worth chasing them. Wal-Mart's buyback was
certainly a big help, but without the added bonus of additional investments
in the e-commerce business, it wouldn't have been a long-term boost. https://www.cnbc.com/2017/10/10/wal-marts-buyback-is-huge-but-dont-chase-buybacks.html |
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Week 8 |
Final Exam Project due with final |
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Summary of Equations FYI *** time value of
money*** FV = PV *(1+r)^n PV = FV /
((1+r)^n) N
= ln(FV/PV) / ln(1+r) Rate = (FV/PV)1/n -1 Annuity: N
= ln(FV/C*r+1)/(ln(1+r)) Or N
= ln(1/(1-(PV/C)*r)))/ (ln(1+r)) EAR = (1+APR/m)^m-1 APR = (1+EAR)^(1/m)*m Excel Formulas To get FV, use FV
function. =abs(fv(rate, nper,
pmt, pv)) To get PV, use PV
function = abs(pv(rate, nper,
pmt, fv)) To get r, use rate
function =
rate(nper, pmt, pv, -fv) To get number of years,
use nper function = nper(rate, pmt, pv,
-fv) To get annuity payment, use PMT
function = pmt(rate, nper, pv,
-fv) To get Effective rate (EAR), use
Effect
function =
effect(nominal_rate, npery) To get annual percentage rate
(APR), use nominal function = nominal(effective rate, npery) *** bond pricing *** Summary of bond pricing excel functions To calculate bond
price (annual coupon bond): Price=abs(pv(yield to
maturity, years left to maturity, coupon rate*1000, 1000) To calculate yield to
maturity (annual coupon bond):: Yield to maturity =
rate(years left to maturity, coupon rate *1000, -price, 1000) To calculate bond
price (semi-annual coupon bond): Price=abs(pv(yield to
maturity/2, years left to maturity*2, coupon rate*1000/2,
1000) To calculate yield to
maturity (semi-annual coupon bond): Yield to maturity =
rate(years left to maturity*2, coupon rate *1000/2, -price,
1000)*2 To calculate number of years left(annual coupon bond) Number of years
=nper(yield to maturity, coupon
rate*1000, -price, 1000) To calculate number of years left(semi-annual coupon bond) Number of years
=nper(yield to maturity/2, coupon
rate*1000/2, -price, 1000)/2 To calculate coupon (annual coupon bond) Coupon = pmt(yield to
maturity, number of years left, -price, 1000) Coupon rate = coupon /
1000 To calculate number of years left(semi-annual coupon bond) Number of years =
pmt(yield to maturity/2, number of years left*2, -price, 1000) Coupon rate = coupon /
1000 (annual coupon bond) (semi annual
coupon bond) NPV and IRR Return, Risk Dividend Growth
Model Po=
D1/(r-g) or Po= Do*(1+g)/(r-g) R =
D1/Po+g = Do*(1+g)/Po+g D1=Do*(1+g); D2= D1*(1+g)… WACC WACC = weight of debt * cost of debt + weight of equity *( cost of equity) Wd= total debt / Total capital = total borrowed / total capital We= total equity/ Total capital Cost of debt = rate(nper, coupon, -(price
– flotation costs), 1000)*(1-tax rate) Cost of Equity = D1/(Po – Flotation
Cost) + g D1: Next period dividend; Po: Current
stock price; g: dividend growth rate Note: flotation costs = flotation
percentage * price Or if
beta is given, use CAPM model (refer to chapter 6) Cost of
equity = risk free rate + beta *(market return – risk free rate) Cost of
equity = risk free rate + beta * market risk premium |