January14th2021

Page 1

Exercise 1 Nikita Asset Management is selecting securities traded on the exchange for its funds. The following bonds are analysed: • Yellow: rated A, coupon 1% paid annually, maturity 30 months • Orange: rated BBB, annual coupon 2% compounded every 6 months (i.e. 1% every semester), maturity 15 months • Red: rated BB, zero coupon bond, maturity 12 months The principal is paid back at maturity in all cases. The interest rate term structure is rather flat (the annual risk-free interest rate is equ al to -0.1% for maturities up to 20 months and +0.1% for maturities from 21 months to 30 months). Currently, this is the spread that the market is requesting for different rating notches: Rating AA A BBB BB B CCC Annual spread +0.3% +0.6% +1.1% +1.8% +2.5% +4% Compute: 1. The equilibrium dirty price and eventually the clean price for the bonds 2. The yield to maturity (YTM) 3. The duration and volatility Explain if, in the cases that the three bonds were callable, we expect larger or lower prices, YTM, duration and volatility , other parameters unchanged. Exercise 2 Financial analysts just published a set of reports about the future profitability of RocketMan LLC: Year 1 Year 2 Year 3 Thereafter ROE (*) 16% 18% 20% 20% Payout ratio 60% 70% 70% 80% (*) = ratio between annual earnings and book value of equity capital at the beginning of the year The book value of the equity capital of the company today is equal to € 280 million and is divided into 40 million shares. The annual cost of capital is equal to 11%. The risk free rate is equal to 0.2%. The dividend to be paid at time 1 has been already decided and confirmed. Assuming that the company will not raise capital in the short run, compute: 1. The expected dividends in the short run (years 1 to 4) 2. The long-run growth rate of…