Investments

Question 1

BOND FACTS

Which is more volatile -

high coupon rate or lower rate?

Long maturity or shorter maturity?

Answer 1

The lower coupon the more volatile

The longer maturity makes the more volatile

Question 2

TIME WEIGHTED RETURNS

Only look at security cash flows…

Think Cash Flows start to finish, don’t include extra shares purchased

An investor buys a share of stock for $50. At the end of the first year, he purchases a second share for $55. At the end of the second year, the stock is worth $62 per share and the investor sells both shares. (The investor received a cash dividend of $2 per share each year.) What is the time-weighted return on this investment?

Answer 2

15.2%

CFo = -50
CFj = 2,
CFj = 64 (62 + 2)
SOLVE FOR IRR

Question 3

TEY - Tax-Exempt Yield

Answer 3

TEY= (Tax Exempt Security) ÷ (1 - the investor’s marginal tax rate).

This should include the state rate in the calculation of marginal rates as the municipal security is state tax-free in the state of issue if one is a resident of that state.

= .05 ÷ (1 - .36 - .07)

= .0877

Question 4

Capitalized Earnings

Example
Farrell's Animal Care Center has been profitable for the past several years. Earnings in 2022 were $440,000. If a discount rate of 21% is used, what would be the value of the business based on 2022 earnings under the capitalization of earnings approach?
A. $1,904,762
B. $2,095,238
C. $2,444,444
D. $2,933.333

Answer 4

Value = earnings/discount rate

B.
=(440/.21)= 2,095,238

Question 5

What is Margin call formula?

Example
Harry pays $20,000 to purchase shares of Solvent Company (trading at $25 per share). If Harry uses a margin account (50% initial margin) to purchase this stock, he can buy 1,600 ((20,000 x 25] shares. Twenty thousand dollars is borrowed from the broker, Harry is concerned about receiving a margin call. At what price point will Harry receive a margin call (assume a maintenance margin of 35%)?

***Do calculations on per share basis.

Answer 5

(Debit balance) /
(1- maintenance margin)

Answer: Harry will receive a margin call when the stock price reaches $19.23.

$12.50/1-.035 = $19.23

Note: Margin call can be determined on a per share basis or on a total market value basis.