Problem:
Robert pang, a 53- year- old software engineer, and his wife, Jean, have $50,000 to invest. they will need the money at retirement 10 years. They are considering 2 investments. The first is a utility company common stock that cost $50 per share and pays dividends of $2 per share per year (a 4% dividend yield). Note that these dividends will be taxed at the same rates that apply to long-term capital gains. The Pangs do not expect the value of this stock to increase. The other investment under consideration is a highly rated corporate bond that currently sells at par in $1000 increments , and pays annual interest at a rate of 5%, or $50 per $1000 invested. Assume that the Pangs keep the income from their investments, but do not reinvest it (they keep the cash under a mattress). They will, however, need to pay income taxes on their investment income. They will sell the stock after 10 years if they buy it. If they buy the bonds, in 10 years they will get back the amount they invested. The Pangs are in the 33% tax bracket.
Q1. How many shares of the stock can the Pangs buy?
Q2. How much will they receive each year in dividend income if they buy the stock, after taxes?
Q3. What is the total amount they would have from their original $500000 if they purchased the stock and it all went as planned?
Q4. How much will they receive each year in interest if they purchase the bonds, after taxes?
Q5. What is the total amount they would have from their original $50000 if they purchased the bonds and all went as planned?
Q6. Based only on your calculations and ignoring other risk factors, should they buy the stock or the bond?