What Is The Market's Required Return On These Bonds?

Question

If the market's required return on all three bonds is You have gathered the following data on three bonds: a. If the market's required return on all three bonds is 6%, what are the market prices of the bonds (you can assume annual interest payments). (Show your work. Label $. Two decimal places required.) b. The market's required return suddenly rises to 7%. What are the new bonds prices, and what is the percentage change in price for each bond? (Show your work. Label $ and %. Two decimal places required for $ and one decimal place required for %.) c. If the market's required return falls from the initial 6% to 5%, what are the new prices, and what is the percentage change in each price relative to the answer obtained in part (a)? (Show your work. Label $ and %. Two decimal places required for $ and one decimal place required for %.) P5-14: One year from today, investors anticipate that Groningen Distillers Inc. stock will pay a dividend of $3.25 per share. After that, investors believe that the dividend will grow at 20% per year for three years before settling down to a long-run growth rate of 4%. The required rate of return on Groningen stock is 15%. What is the current stock price? (Show your work. Label $. Two decimal places required.)

Dr. Jack HW Helper · Accepted Answer

To tackle the assignment on bond pricing and stock valuation, we will first calculate the market prices of three different bonds when the market's required return is set at 6%. We will subsequently analyze the impact of changes in the required return on these bond prices. Part A: Bond Pricing at 6% To calculate the market prices of the bonds at a required return of 6%, we will use the formula for the price of a bond: Bond Price = C * [1 - (1 + r)^-n]/r + F/(1 + r)^n C = Annual coupon payment r = Market required return (6% or 0.06) n = Number of years to maturity F = Face value of the bond (assumed to be $1,000) Let’s assume the following values for the three bonds: Bond 1: C = $60, n = 10 years Bond 2: C = $80, n = 8 years Bond 3: C = $50, n = 5 years For Bond 1: Price = 60 * [1 - (1 + 0.06)^-10]/0.06 + 1000/(1 + 0.06)^10 = $1,012.15 For Bond 2: Price = 80 * [1 - (1 + 0.06)^-8]/0.06 + 1000/(1 + 0.06)^8 = $1,014.67 For Bond 3: Price = 50 * [1 - (1 + 0.06)^-5]/0.06 + 1000/(1 + 0.06)^5 = $965.73 Therefore, at a 6% required return, the market prices of the bonds are as follows: Bond 1: $1,012.15 Bond 2: $1,014.67 Bond 3: $965.73 Part B: Bond Pricing at 7% Now, we will recalculate the prices when the required return rises to 7%. For Bond 1: Price = 60 * [1 - (1 + 0.07)^-10]/0.07 + 1000/(1 + 0.07)^10 = $925.34 For Bond 2: Price = 80 * [1 - (1 + 0.07)^-8]/0.07 + 1000/(1 + 0.07)^8 = $937.94 For Bond 3: Price = 50 * [1 - (1 + 0.07)^-5]/0.07 + 1000/(1 + 0.07)^5 = $735.71 Percentage changes are calculated as follows: Bond 1: ((925.34 - 1,012.15)/1,012.15) * 100 = -8.57% Bond 2: ((937.94 - 1,014.67)/1,014.67) * 100 = -7.57% Bond 3: ((735.71 - 965.73)/965.73) * 100 = -23.74% Part C: Bond Pricing at 5% Next, we calculate the bond prices when the required return decreases to 5%. For Bond 1: Price = 60 * [1 - (1 + 0.05)^-10]/0.05 + 1000/(1 + 0.05)^10 = $1,103.66 For Bond 2: Price = 80 * [1 - (1 + 0.05)^-8]/0.05 + 1000/(1 + 0.05)^8 = $1,112.94 For Bond 3: Price = 50 * [1 - (1 + 0.05

What Is The Market's Required Return On These Bonds? ✓ Solved

If the market's required return on all three bonds is

Paper For Above Instructions

Part A: Bond Pricing at 6%

Part B: Bond Pricing at 7%

Part C: Bond Pricing at 5%

Stock Valuation for Groningen Distillers Inc.

Conclusion

References