Figure 1 below shows the price and other information of an Apple bond from the site Investing.com
Figure 1: Apple 3.85% bond information (from Investing.com) as of 22 July 2022 Note that bond prices and coupon rates are quoted in % of par.
(a) What is the price of the Apple bond on 22 July 2022? (0.5 mark)
(b) What coupon payment will bond holders receive from each bond on the next payment date? (0.5 mark)
(c) What is the yield to maturity for this bond based on the latest price (from Part (a) )?(2 marks)The following data is available on US Government Treasury bonds.
Figure 2: US Treasury yields in percent (from Trading Economics) for 22 July 2022
(d) Based on the information in Figure 2, what is the credit spread of the 3.85% Apple bond? (0.5 mark)
(e) If interest rates in the economy rise, and the yield to maturity on this bond increases to 4.9%, what will happen to the price of the bond? What is the percentage change in its price from 22 July 2022? (1 mark)
(f) Is this bond trading at par, at a premium, or a discount? (0.5 mark)
(g) What would we expect the price of the bond to be on 22 July 2023 if interest rates stay at current (22 July 2022) level (as in Part (c ) )? (2 marks)
Total Q1: 7 marksQuestion 2
Novak Ltd expects its new tennis racquet will give it a significant first mover advantage in the market and that is expected to provide growth in earnings per share of 400% within the coming year, and 75% growth in each of the subsequent 3 years. After that time, it is expected competitors will have developed and brought to market similar products with the result that Novak would expect earnings growth to drop back to its normal level of 3% per year forever. Its cash dividend was 10 cents per share last year and is expected to remain at that amount for each of the next 5 years as the company builds its retained earnings to finance research and development. In the sixth year, it is expected shareholders will be rewarded with a payout ratio that will be 80% of the earnings per share, and the payout ratio is expected to remain at that level forever. The required rate of return on Novak Ltd’s ordinary shares is 20% per year and the latest earnings per share was 25 cents.
(a)Calculate the price that Novak Ltd ordinary shares should be selling for in the market, assuming Novak’s growth projections are accurate.(4 marks)
(b)Novak’s Board of Directors is concerned that the Marketing Department’s earnings growth projections, as a result of the new product, might be too optimistic in the first four years. The Board is in favour of a more conservative approach and recommends the growth rates should be half (i.e. reduced by 50%) of the Marketing department’s projections before growth returns to its normal 3% level. Calculate the price that Novak Ltd ordinary shares should be selling for in the market, using the new, more conservative growth projections. (2 marks)
Total Q2: 6 marks
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