1. You are a financial advisor and you have estimated that the expected return of Xyon stock is 10% with a standard deviation of 16%. A stock from the same industry, Yane, has a 90% chance of returning a profit of 10% and a 10% chance of losing 20%.
(a) Your client, Ms. Rice says she's indifferent between investing in Xyon and Yane. What should her risk aversion coefficient (A=?) be?
2. Suppose that the corporate income tax rate is 30%, the personal income tax rate on dividend income and the interest tax rate are both 35%, and the capital gains tax rate is 20%. Compare the after-tax returns on each dollar of corporate earnings under three investment financing strategies:
a. the corporation finances using debt
b. the corporation finances by issuing equity but does not pay dividends
c. the corporation finances by equity and pays all its income in dividends