Does an arbitrage opportunity exist and if so how would

QUESTION

Essay Questions “ Short Answer (2-6 marks each, totaling 40
marks):
31. Advanced Micro Devices (NYSE: AMD) is currently trading at
$20.75 on the NYSE. Advanced Micro Devices is also listed on NASDAQ and assume
it is currently trading on NASDAQ at $20.50.
Required: Does an arbitrage opportunity exist and if so how would
you exploit it and how much would you make on a block trade of 1,000 shares? (4
marks)
32. Required: Can the
nominal interest rate ever be negative? Can the real interest rate ever be negative?
Explain. (4 marks)
33. Required: What is the
relationship between a bond’s price and its yield to maturity? (2 marks)
34. Growing Real Fast Company (GRF) is expected to have a 25
percent growth rate for the next four years (affecting D1, D2,
D3, and D4). Beginning in year five, the
growth rate is expected to drop to 7 percent per year and last indefinitely.
Required: If GRF just
paid a $2.00 dividend and the appropriate discount rate is 15 percent, then
what is the value of a share of GRF? (4 marks)

35. Consider two mutually exclusive projects with the following
cash flows:

Project

C/F0

C/F1

C/F2

C/F3

C/F4

C/F5

C/F6

A

$(41,215)

$12,500

$14,000

$16,500

$18,000

20,000

N/A

B

$(46,775)

$15,000

$15,000

$15,000

$15,000

$15,000

$15,000

Required: If the
discount rate for project B is 15%, then what is the NPV for project B? (4
marks)

36. Required: What is a sunk cost? Should it be included in the
incremental cash flows for a project? Why or why not? (4 marks)
37. Consider the following realized annual returns:

Year End

Market
Realized Return

Microsoft
Realized Return

1996

21.2%

88.3%

1997

30.3%

56.4%

1998

22.3%

114.6%

1999

25.3%

68.4%

2000

-11.0%

-62.8%

2001

-11.3%

52.7%

2002

-20.8%

-22.0%

2003

33.1%

6.9%

2004

13.0%

9.2%

2005

7.3%

-0.9%

Required: Using the
data provided in the table, calculate the average annual return, the variance
of the annual returns, and the standard deviation of the average returns for
the market from 1996 to 2005. (4 marks)

38. Consider the following returns:

Year End

Lowes
Realized Return

Home
Depot Realized Return

IBM
Realized Return

2000

20.1%

-14.6%

0.2%

2001

72.7%

4.3%

-3.2%

2002

-25.7%

-58.1%

-27.0%

2003

56.9%

71.1%

27.9%

2004

6.7%

17.3%

-5.1%

2005

17.9%

0.9%

-11.3%

Required: Calculate
the variance on a portfolio that is made up of equal investments in Home Depot
and IBM stock. (6 marks)

39. The Aardvark Corporation is considering launching a new
product and is trying to determine an appropriate discount rate for evaluating
this new product. Aardvark has identified the following information for three
single division firms that offer products similar to the one Aardvark is
interested in launching:

Comparable Firm

Equity
Cost of Capital

Debt
Cost of Capital

Debt-to-Value
Ratio

Anteater Enterprises

12.50%

6.50%

50%

Armadillo Industries

13%

6.10%

40%

Antelope Inc.

14%

7.10%

60%

Required: Based upon
the three comparable firms, calculate the most appropriate unlevered cost of
capital for Aardvark to use on this new product. (4 marks)

40. Consider a project with free cash flows in one year of $90,000
in a weak economy or $117,000 in a strong economy, with each outcome being
equally likely. The initial investment required for the project is $80,000, and
the project’s cost of capital is 15%. The risk-free interest rate is 5%.
Sisyphean Bolder
Movers Incorporated has no debt, a total equity capitalization of $50 billion,
and a beta of 2.0. Included in Sisyphean’s assets are $12 billion in cash and
risk-free securities.

Required: Calculate
Sisyphean’s enterprise value and unlevered beta considering the fact that
Sisyphean’s cash is risk-free. (4 marks)

 

ANSWER

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