chap010solutions - Solutions to Chapter 10 Introduction to...

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Solutions to Chapter 10 Introduction to Risk, Return, and the Opportunity Cost of Capital 1. % 0 . 15 15 . 0 40 $ 2 $ ) 40 $ 44 ($ price share initial dividend gain capital return of Rate = = + - = + = Dividend yield = dividend/initial share price = $2/$40 = 0.05 = 5% Capital gains yield = capital gain/initial share price = $4/$40 = 0.10 = 10% 2. Dividend yield = $2/$40 = 0.05 = 5% The dividend yield is unaffected; it is based on the initial price, not the final price. Capital gain = $36 – $40 = - $4 Capital gains yield = –$4/$40 = –0.10 = –10% 3. a. % 0 40 $ 2 $ ) 40 $ 38 ($ price share initial dividend gain capital return of Rate = + - = + = % 85 . 3 0385 . 0 1 04 . 0 1 0 1 1 rate inflation 1 return of rate nominal 1 return of rate Real - = - = - + + = - + + = b. % 5 05 . 0 40 $ 2 $ ) 40 $ 40 ($ return of Rate = = + - = % 96 . 0 0096 . 0 1 04 . 1 05 . 1 1 rate inflation 1 return of rate nominal 1 return of rate Real = = - = - + + = c. % 10 10 . 0 40 $ 2 $ ) 40 $ 42 ($ return of Rate = = + - = % 77 . 5 0577 . 0 1 04 . 1 10 . 1 1 rate inflation 1 return of rate nominal 1 return of rate Real = = - = - + + = 10-1
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4. 1 rate inflation 1 return of rate nominal 1 return of rate Real - + + = Costaguana: Real return % 33 . 8 0833 . 0 1 80 . 1 95 . 1 = = - = U.S.: Real return % 80 . 9 0980 . 0 1 02 . 1 12 . 1 = = - = The U.S. provides the higher real rate of return despite the lower nominal rate of return. Notice that the approximate relationship between real and nominal rates of return is valid only for low rates: real rate of return nominal rate of return – inflation rate This approximation incorrectly suggests that the Costaguanan real rate was higher than the U.S. real rate. 5. We use the following relationship: 1 rate inflation 1 return of rate nominal 1 return of rate Real - + + = Asset class Nominal rate of return Inflation rate Real rate of return Treasury bills 4.0% 3.0% 0.97% Treasury bonds 5.3% 3.0% 2.23% Common stocks 11.7% 3.0% 8.45% 6. The nominal interest rate cannot be negative. If it were, investors would choose to hold cash (which pays a rate of return equal to zero) rather than buy a Treasury bill providing a negative return. On the other hand, the
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chap010solutions - Solutions to Chapter 10 Introduction to...

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