4540mtw12key - AP/ADMS 4540 Financial Management Winter...

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1 AP/ADMS 4540 Financial Management Winter 2012 Mid-Term Exam Instructor: Dr. William Lim Question 1 (16 marks) 1a. Calculate the RVs, WVs, price, duration and volatility of a 5-year, $1,000 face value, 7 percent coupon bond yielding 6 percent with coupons paid annually. Using its duration and volatility, calculate what happens to the price of the bond when the yield to maturity falls to 5 percent. (8 marks) Time Payment PV RV WV 1 70 66.04 0.06337 0.06337 2 70 62.30 0.05978 0.11956 3 70 58.77 0.05639 0.16917 4 70 55.45 0.05321 0.21284 5 1,070 799.57 0.76725 3.83625 Bond Price =1,042.13 1.00000 4.40119=Duration (5 marks) Duration = D = 4.40119 years Volatility = v = -D/(1+r) = -4.40119/1.16 = -4.15% (1 mark) When yield rises by one percent, price falls by 4.15% or $43.25 (1 mark) New price = $1,042.13+$43.25 = $1,085.38. (1 mark) 1b. Meet (Curious) George and The Man (with the Yellow Hat). They are asset managers who invest client funds to make movies. Hoping to work in the industry, you follow them around to impress them and other movie producers with your knowledge of finance. Now George hires you as a temp and asks you analyze investments in zero-coupon or stripped bonds to pay for future production costs in three or five years (when Curious George 3 will be made). The flat yield curve jumped up by one percent (from 10% to 11%) recently, and the following table gives the prices of different bonds before and after the yield increase: Bond Price_Before Price_After A 1032 1012.8 B 900.6 803 C 1046.6 999 D 931 905.6 E 749.2 645.8 F 1042.4 1000 Which bond would you recommend if Curious George 3 is made in 3 years?Which bond would you recommend if Curious George 3 is made in 5 years? What are the assumptions underlying your answer? (8 marks) (6 marks for finding duration D of each bond A to F, 1 mark each for choosing bond C and D.)
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2 Question 2 (14 marks) With Canadian interest rates still at historical lows, Alliance Atlantis is considering whether to refund an old issue of $30 million, 12 percent coupon (paid yearly) 20-year bonds that were sold 5 years ago. A new issue of $30 million, 15-year bonds can be sold with a coupon rate of 10 percent (paid yearly). A call premium of 8 percent will be required to retire the old bonds and floatation costs of $1.8 million will apply to the new issue. The marginal tax rate applicable is 30 percent and AA expects that there will be a one month overlap during which any funds can be invested in t-bills yielding 8 percent. Should AA refund? Why? Question 3
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This note was uploaded on 03/24/2012 for the course ADMS ADMS 4540 taught by Professor Lie during the Winter '11 term at York University.

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4540mtw12key - AP/ADMS 4540 Financial Management Winter...

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