Topic Questions
Bond Valuation
Cash flows: coupon payment, par value and call price, for annual and semi-annual bonds
Who pays whom what?
Calculate value at various market rates, for annual and semi-annual bonds
Par, premium, discount
PV of interest differentials
Interest rate risk (price risk) v. reinvestment rate risk (income risk)
Calculate value at various dates (till maturity), for annual and semi-annual bonds
Price-yield relationships
Calculate yield to maturity, current yield, capital gains yield, yield to call for annual and semiannual bonds
Interest Rates Interest rate model ("layer-cake"): risk-free rate + risk premium
Determinants of real risk-free rate, nominal risk-free rate (Fisher Effect)
Determinants of risk premium (spread): default risk, (il)liquidity, maturity
Term structure/yield curve
Theories: market segmentation, pure expectations, liquidity preference
Forecasting interest rates
Stock Valuation
Distinguish common and preferred stock
What are common shareholders actually buying?
"Constant" dividend growth (Gordon) model : assumptions, applicability
For constant (positive, zero, negative) growth common stock, calculate value of share and expected dividend yield, capital gains yield and total return
For non-constant growth common stock, calculate value of share today
Preferred stock: calculate value, expected return
Equilibrium: What conditions must hold? What happens if they do not?
Cost of Capital
Role of Weighted Average Cost of Capital (WACC)/Marginal Cost of Capital (MCC): investor's required returns => firm's cost => minimum acceptable return on new investment
MCC is supply curve of new capital
Target capital structure: meaning
Calculate component costs: debt (after-tax), preferred, common (retained earnings & new shares)
Calculate breakpoint(s)
Calculate WACC(s)
Limitations: "other things unchanged," particularly risk