Valuation of Financial Instruments

User Generated

fcbatrobo124

Business Finance

Description

Word document of 700–1,000 words with attached Excel Spreadsheet showing calculations

After engaging in a dialogue with your colleagues on valuation, you will now be given an opportunity to apply principles that were presented in this phase. Using a Web site that provides current stock and bond pricing and yield information, complete and analyze the tables illustrated below. Your mentor suggests using a Web site similar to this one.

To fill out the first table, you will need to select 3 bonds with maturities between 10 and 20 years with bond ratings of "A to AAA," "B to BBB" and "C to CC" (you may want to use bond screener at the Web site linked above). All of these bonds will have these values (future values) of $1,000. You will need to use a coupon rate of the bond times the face value to calculate the annual coupon payment. You should subtract the maturity date from the current year to determine the time to maturity. The Web site should provide you with the yield to maturity and the current quote for the bond. (Be sure to multiply the bond quote by 10 to get the current market value.) You will then need to indicate whether the bond is currently trading at a discount, premium, or par.

Bond

Company/
Rating

Face Value (FV)

Coupon Rate

Annual Payment (PMT)

Time-to Maturity (NPER)

Yield-to-Maturity (RATE)

Market Value (Quote)

Discount, Premium, Par

A-Rated


$1,000







B-Rated


$1,000







C-Rated


$1,000







  • Explain the relationship observed between ratings and yield to maturity.
  • Explain why the coupon rate and the yield to maturity determine why the bonds would trade at a discount, premium, or par.

In this step, you have been asked to visit a credible Web site that provides detailed information on publicly traded stocks and select 1 that has at least a 5-year history of paying dividends and 2 of its closest competitors.

"To fill up the first table, you will need to gather information needed to calculate the required rate of return for each of the 3 stocks (use the Capital Asset Pricing model). You will need to find the risk-free rate online. It is the 5-year Treasury rate. You will need the market return which is just the return on the S&P 500 Index, and it is available online. You should use an average over 5 years (find the historical yearly returns for the S&P 500 Index and average them). You must research your stocks to find the betas. You should be able to find them at finance.yahoo.com."

Company

5-year Risk-Free Rate of Return

Beta (ß)

5-Year Return of S&P 500 Index

Required Rate of Return (CAPM)
















"To complete the next table, you will need the most recent dividends paid over the past year for each stock, next year's expected dividends, the expected growth rate of the dividends (which you can calculate by taking next year's dividend subtracting off this year's dividend and dividing the result by this year's dividend), and the required rate of return you calculated in the previous table. You will also need to compare your results with the current value of each stock and determine whether the model suggests that they are over- or underpriced.

Company Current Dividend Projected Growth Rate of Dividends Next year's Dividend Required Rate of Return (CAPM) Estimated Stock Price (Gordon Model) = Next year's dividend / (required rate of return – projected growth rate of dividends) Current Stock Price Over/under Priced
























In the third table, you will be using the price to earnings ratio (P/E) along with the average expected earnings per share provided by the Web site. You will also need to compare your results with the current value of each stock to determine whether or not the model suggests that the stocks are over- or underpriced.

Company

Estimated Earning
(next year)

P/E Ratio

Estimated Stock Price (P/E)

Current Stock Price

Over/Under Priced



















After completing the 3 tables, explain your findings and why your calculations coincide with the principles related to bonds that were presented in the Phase. Be sure to address the following:

  • Explain the relationship observed between the required rate of return, growth rate and the dividend paid, and the estimated value of the stock using the Gordon Model.
  • Explain the value and weaknesses of the Gordon model.
  • Explain the how the price-to-earnings model is used to estimate the value of the stocks.

Note: You can find information about the top 500 stocks at this Web site.

References

S&P 500 index chart. (2014). Retrieved from the Yahoo! Finance Web site: http://finance.yahoo.com/echarts?s=%5egspc+interactive#symbol=^gspc;range=1y;compare=;indicator=volume;charttype=area;crosshair=on;ohlcvalues=0;logscale=off;source=;

Be sure to document your paper with in-text citations, credible sources, and a list of references used in proper APA format.

User generated content is uploaded by users for the purposes of learning and should be used following Studypool's honor code & terms of service.

Explanation & Answer

Attached.

Running head: VALUATION OF FINANCIAL INSTRUMENT

Valuation of Financial Instruments
Name:
Professor:
Course:
Date:

2
VALUATION OF FINANCIAL INSTRUMENT

Relationship between yield to maturity and ratings
The relationship observed between rating and yield to maturity is based on 3 major companies,
Fitch, Moody’s, and Standard & poor’s. The bond in each of these companies are graded using
‘’A-AA’’, ‘’B-BB’’, or C-CCC, they access the issuers of bonds capability or eagerness to pay their
interest. There are bonds that are considered to carry minimal risk of going into default and are
considered to be investment grade’’ and will be rate ‘’BBB’’ or higher depending on the
company doing it. (Editorial Board. (2014).
Par, discount or premium determined by yield to maturity and coupon rate
When a bond is first purchased it is bought at par value, this is the original price it is bought at
par value, and this is the original price that you pay for the bond; the moment it is traded on
the market and sold in the secondary market the bond may become discounted or premium. A
premium bond is classified that after it is traded above its par value. When it is traded at a
premium level then a coupon rate, that will be higher than the intere...


Anonymous
I was stuck on this subject and a friend recommended Studypool. I'm so glad I checked it out!

Studypool
4.7
Trustpilot
4.5
Sitejabber
4.4

Related Tags