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BODIE KANE MARCUS INVESTMENTS SOLUTIONS PDF

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Investments Solution Manual Bodie Kane Marcus Mohanty. Course: BSc(Hons) FInancial Analysis (BFA). Chapter 01 - The Investment Envir. Investments 10E by Bodie Kane Marcus - Solutions to Chpater Problems. Pages: Investments, 10th Ed, Bodie, Alex Kane, Alan Marcus [Dr. Investments-Solution-Manual-Bodie-Kane-Marcus-Mohanty ( Chapter 16 - Managing Bond Portfolios a. The duration of ).


Bodie Kane Marcus Investments Solutions Pdf

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Such an effect ought to mitigate cost pressures on the inflation rate. The robotics process entails higher fixed costs and lower variable labor costs. Therefore, this firm will perform better in a boom and worse in a recession. For example, costs will rise less rapidly than revenue when sales volume expands during a boom. Because its profits are more sensitive to the business cycle, the robotics firm will have the higher beta.

Housing construction cyclical but interest-rate sensitive : iii Healthy expansion b. Health care a non-cyclical industry : i Deep recession c.

Gold mining counter-cyclical : iv Stagflation d. Steel production cyclical industry ii Superheated economy Oil well equipment: Relative decline Environmental pressures, decline in easily- developed new oil fields b. Computer hardware: Consolidation d. General Autos. Pharmaceuticals are less of a discretionary purchase than automobiles.

Friendly Airlines. Travel expenditure is more sensitive to the business cycle than movie consumption. The index of consumer expectations is a useful leading economic indicator because, if consumers are optimistic about the future, they will be more willing to spend money, especially on consumer durables, which will increase aggregate demand and stimulate the economy.

Labor cost per unit is a useful lagging indicator because wages typically start rising only well into an economic expansion. At the beginning of an expansion, there is considerable slack in the economy and output can expand without employers bidding up the price of inputs or the wages of employees.

By the time wages start increasing due to high demand for labor, the boom period has already progressed considerably. The expiration of the patent means that General Weedkillers will soon face considerably greater competition from its competitors. We would expect prices and profit margins to fall, and total industry sales to increase somewhat as prices decline. The industry will probably enter the consolidation stage in which producers are forced to compete more extensively on the basis of price.

At this level, revenue will be: 0. Lowering reserve requirements would allow banks to lend out a higher fraction of deposits and thus increase the money supply. The Fed would buy Treasury securities, thereby increasing the money supply. The discount rate would be reduced, allowing banks to borrow additional funds at a lower rate.

Expansionary monetary policy is likely to increase the inflation rate, either because it may over stimulate the economy, or ultimately because the end result of more money in the economy is higher prices. Real output and employment should increase in response to the expansionary policy, at least in the short run. The real interest rate should fall, at least in the short-run, as the supply of funds to the economy has increased. The nominal interest rate could either increase or decrease.

On the one hand, the real rate might fall [see part c ], but the inflation premium might rise [see part a ]. The nominal rate is the sum of these two components. The concept of an industrial life cycle refers to the tendency of most industries to go through various stages of growth.

The rate of growth, the competitive environment, profit margins and pricing strategies tend to shift as an industry moves from one stage to the next, although it is generally difficult to identify precisely when one stage has ended and the next begun. The start-up stage is characterized by perceptions of a large potential market and by a high level of optimism for potential profits.

However, this stage usually demonstrates a high rate of failure. In the second stage, often called stable growth or consolidation, growth is high and accelerating, the markets are broadening, unit costs are declining and quality is improving.

In this stage, industry leaders begin to emerge. Finally, an industry reaches a stage of relative decline in which sales slow or even decline. In stage two stable growth , new entrants begin to appear and costs fall rapidly due to the learning curve. Prices generally do not fall as rapidly, however, allowing profit margins to increase. In stage three slowing growth , growth begins to slow as the product or service begins to saturate the market, and margins are eroded by significant price reductions.

The passenger car business in the United States has probably entered the final stage in the industrial life cycle because normalized growth is quite low.

The information processing business, on the other hand, is undoubtedly earlier in the cycle. Depending on whether or not growth is still accelerating, it is either in the second or third stage. Cars: In the final stages of the life cycle, demand tends to be price sensitive. Thus, Universal can not raise prices without losing volume. A basic premise of the business cycle approach to investment timing is that stock prices anticipate fluctuations in the business cycle.

For example, there is evidence that stock prices tend to move about six months ahead of the economy. In fact, stock prices are a leading indicator for the economy. Over the course of a business cycle, this approach to investing would work roughly as follows.

As the investor perceives that the top of a business cycle is approaching, stocks purchased should not be vulnerable to a recession. When the investor perceives that a downturn is at hand, stock holdings should be lightened with proceeds invested in fixed-income securities.

Once the recession has matured to some extent, and interest rates fall, bond prices will rise. As the investor perceives that the recession is about to end, profits should be taken in the bonds and reinvested in stocks, particularly those in cyclical industries with a high beta. Switches made after the turning points may not lead to excess returns.

Based on the business cycle approach to investment timing, the ideal time to invest in a cyclical stock such as a passenger car company would be just before the end of a recession. The equities market generally anticipates the changes in the economic cycle. There may be fewer growth opportunities in the industry. This industry subgroup is in its consolidation stage i. Substitutes — one year from now: Currently the Carrycom, and other products in their industry segment, have automatic language conversion functionality and geographic region flexibility.

This market segment is currently in a strong position. Substitutes — five years from now: White expects that other products in the broader consumer electronics industry, such as PDAs, PCs, and other consumer electronics, will eventually be able to incorporate both functionalities and so therefore diminish the strength of this force for Carrycom and other products in their market segment.

Threat of new or potential entrants — one year from now: Wade has no threat of entrants into its market for the next three years because: a Wade has the exclusive ability to manufacture with ordinary copper, while other potential entrants do not have access to pari-copper, and; b Potential entrants do not have access to the exclusive production license for Carrycom technology. In addition, the three-year exclusive production license expires.

Intensity of rivalry — one year from now: Wade will experience only modest rivalry for three years as it has an exclusive production license for the next three years, which limits the availability of similar products.

However, the broader electronics market may be integrating the automatic language conversion feature into its products after one year. Intensity of rivalry — five years from now: After the license expires in three years, White expects other competitors to produce a number of similar products which will limit their pricing power. This demonstrates a high intensity of rivalry. Theoretically, dividend discount models can be used to value the stock of rapidly growing companies that do not currently pay dividends; in this scenario, we would be valuing expected dividends in the relatively more distant future.

However, as a practical matter, such estimates of payments to be made in the more distant future are notoriously inaccurate, rendering dividend discount models problematic for valuation of such companies; free cash flow models are more likely to be appropriate.

At the other extreme, one would be more likely to choose a dividend discount model to value a mature firm paying a relatively stable dividend. It is most important to use multi-stage dividend discount models when valuing companies with temporarily high growth rates. These companies tend to be companies in the early phases of their life cycles, when they have numerous opportunities for reinvestment, resulting in relatively rapid growth and relatively low dividends or, in many cases, no dividends at all.

As these firms mature, attractive investment opportunities are less numerous so that growth rates slow. The market capitalization rate is the market consensus for the required rate of return for the stock. If the intrinsic value of the stock is equal to its price, then the market capitalization rate is equal to the expected rate of return. On the other hand, if the individual investor believes the stock is underpriced i. The forecast for current year earnings, however, is unchanged.

This information is not yet known to the rest of the market.

129608288-Investments-Solution-Manual-Bodie-Kane-Marcus-Mohanty

The solutions derived from Spreadsheet Therefore, we can use the constant growth model as of the end of year 2 in order to calculate intrinsic value by adding the present value of the first two dividends plus the present value of the price of the stock at the end of year 2. This is consistent with the DDM.

When special information arrives, all the abnormalreturn accrues in that period, as one would expect in an efficient market. This director is confused.

In the context of the constant growth model [i. But everything else will not be constant. If the firm increases the dividend payout rate, the growth rate g will fall, and stock price will not necessarily rise. The sustainable growth rate i.

Using a two-stage dividend discount model, the current value of a share of Sundanci is calculated as follows. Free cash flow to equity FCFE is defined as the cash flow remaining after meeting all financial obligations including debt payment and after covering capital expenditure and working capital needs.

The FCFE is a measure of how much the firm can afford to pay out as dividends, but in a given year may be more or less than the amount actually paid out. The FCFE model requires forecasts of FCFE for the high growth years and plus a forecast for the first year of stable growth in order to to allow for an estimate of the terminal value in based on perpetual growth.

Alternatively, the components of FCFE can be projected and aggregated for each year. The following table shows the process for estimating Sundanci's current value on a per share basis. The DDM uses a strict definition of cash flows to equity, i. In fact, taken to its extreme, the DDM cannot be used to estimate the value of a stock that pays no dividends.

The FCFE model expands the definition of cash flows to include the balance of residual cash flows after all financial obligations and investment needs have been met. In instances of a change of corporate control, and therefore the possibility of changing dividend policy, the FCFE model provides a better estimate of value.

It is considered a conservative model in that it tends to identify fewer undervalued firms as market prices rise relative to fundamentals. The DDM does not allow for the potential tax disadvantage of high dividends relative to the capital gains achievable from retention of earnings.

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Both two-stage valuation models allow for two distinct phases of growth, an initial finite period where the growth rate is abnormal, followed by a stable growth period that is expected to last indefinitely. These two-stage models share the same limitations with respect to the growth assumptions. First, there is the difficulty of defining the duration of the extraordinary growth period. For example, a longer period of high growth will lead to a higher valuation, and there is the temptation to assume an unrealistically long period of extraordinary growth.

Second, the assumption of a sudden shift from high growth to lower, stable growth is unrealistic. The transformation is more likely to occur gradually, over a period of time. Given that the assumed total horizon does not shift i. Third, because the value is quite sensitive to the steady-state growth assumption, over- or under-estimating this rate can lead to large errors in value. An increased market risk premium increases the required rate of return, lowering the price of a stock relative to its earnings.

The increased retention ratio increased the sustainable growth rate. This increase in the retention ratio directly increased the sustainable growth rate because the retention ratio is one of the two factors determining the sustainable growth rate. The decrease in leverage reduced the sustainable growth rate. The Gordon growth model assumes a set of relationships about the growth rate for dividends, earnings, and stock values. Specifically, the model assumes that dividends, earnings, and stock values will grow at the same constant rate.

Analysts who follow a top-down approach then narrow their attention to an industry or sector likely to perform well, given the expected performance of the broader economy.

Finally, the analysis focuses on specific companies within an industry or sector that has been identified as likely to perform well. A bottom-up approach typically emphasizes fundamental analysis of individual company stocks, and is largely based on the belief that undervalued stocks will perform well regardless of the prospects for the industry or the broader economy. One would expect, for example, that prospects for a particular industry are highly dependent on broader economic variables.

Firms with greater sensitivity to business cycles are in industries that produce durable consumer goods or capital goods. Consumers of durable goods e. Business purchases of capital goods e. Gold Mining. Gold traditionally is viewed as a hedge against inflation. Expansionary monetary policy may lead to increased inflation, and thus could enhance the value of gold mining stocks. Expansionary monetary policy will lead to lower interest rates which ought to stimulate housing demand.

The construction industry should benefit. Supply-side economists believe that a reduction in income tax rates will make workers more willing to work at current or even slightly lower gross-of-tax wages.

Such an effect ought to mitigate cost pressures on the inflation rate. The robotics process entails higher fixed costs and lower variable labor costs. Therefore, this firm will perform better in a boom and worse in a recession. For example, costs will rise less rapidly than revenue when sales volume expands during a boom.

Because its profits are more sensitive to the business cycle, the robotics firm will have the higher beta. Housing construction cyclical but interest-rate sensitive : iii Healthy expansion b.

Health care a non-cyclical industry : i Deep recession c.

Gold mining counter-cyclical : iv Stagflation d. Steel production cyclical industry ii Superheated economy Oil well equipment: Relative decline Environmental pressures, decline in easily- developed new oil fields b. Computer hardware: Consolidation d. General Autos.

Pharmaceuticals are less of a discretionary purchase than automobiles. Friendly Airlines. Travel expenditure is more sensitive to the business cycle than movie consumption. The index of consumer expectations is a useful leading economic indicator because, if consumers are optimistic about the future, they will be more willing to spend money, especially on consumer durables, which will increase aggregate demand and stimulate the economy.

Labor cost per unit is a useful lagging indicator because wages typically start rising only well into an economic expansion. At the beginning of an expansion, there is considerable slack in the economy and output can expand without employers bidding up the price of inputs or the wages of employees.

By the time wages start increasing due to high demand for labor, the boom period has already progressed considerably. The expiration of the patent means that General Weedkillers will soon face considerably greater competition from its competitors.

129608288-Investments-Solution-Manual-Bodie-Kane-Marcus-Mohanty

We would expect prices and profit margins to fall, and total industry sales to increase somewhat as prices decline. The industry will probably enter the consolidation stage in which producers are forced to compete more extensively on the basis of price. At this level, revenue will be: 0.

Lowering reserve requirements would allow banks to lend out a higher fraction of deposits and thus increase the money supply. The Fed would buy Treasury securities, thereby increasing the money supply. The discount rate would be reduced, allowing banks to borrow additional funds at a lower rate. Expansionary monetary policy is likely to increase the inflation rate, either because it may over stimulate the economy, or ultimately because the end result of more money in the economy is higher prices.

Real output and employment should increase in response to the expansionary policy, at least in the short run. The real interest rate should fall, at least in the short-run, as the supply of funds to the economy has increased. The nominal interest rate could either increase or decrease. On the one hand, the real rate might fall [see part c ], but the inflation premium might rise [see part a ].

The nominal rate is the sum of these two components. The concept of an industrial life cycle refers to the tendency of most industries to go through various stages of growth. The rate of growth, the competitive environment, profit margins and pricing strategies tend to shift as an industry moves from one stage to the next, although it is generally difficult to identify precisely when one stage has ended and the next begun.

The start-up stage is characterized by perceptions of a large potential market and by a high level of optimism for potential profits. However, this stage usually demonstrates a high rate of failure. In the second stage, often called stable growth or consolidation, growth is high and accelerating, the markets are broadening, unit costs are declining and quality is improving. In this stage, industry leaders begin to emerge. Finally, an industry reaches a stage of relative decline in which sales slow or even decline.

In stage two stable growth , new entrants begin to appear and costs fall rapidly due to the learning curve. Prices generally do not fall as rapidly, however, allowing profit margins to increase. In stage three slowing growth , growth begins to slow as the product or service begins to saturate the market, and margins are eroded by significant price reductions.

The passenger car business in the United States has probably entered the final stage in the industrial life cycle because normalized growth is quite low. The information processing business, on the other hand, is undoubtedly earlier in the cycle. Depending on whether or not growth is still accelerating, it is either in the second or third stage. Cars: In the final stages of the life cycle, demand tends to be price sensitive.

Thus, Universal can not raise prices without losing volume. A basic premise of the business cycle approach to investment timing is that stock prices anticipate fluctuations in the business cycle. For example, there is evidence that stock prices tend to move about six months ahead of the economy. In fact, stock prices are a leading indicator for the economy. Over the course of a business cycle, this approach to investing would work roughly as follows.

As the investor perceives that the top of a business cycle is approaching, stocks purchased should not be vulnerable to a recession. When the investor perceives that a downturn is at hand, stock holdings should be lightened with proceeds invested in fixed-income securities. Once the recession has matured to some extent, and interest rates fall, bond prices will rise. As the investor perceives that the recession is about to end, profits should be taken in the bonds and reinvested in stocks, particularly those in cyclical industries with a high beta.

Switches made after the turning points may not lead to excess returns. Based on the business cycle approach to investment timing, the ideal time to invest in a cyclical stock such as a passenger car company would be just before the end of a recession. The equities market generally anticipates the changes in the economic cycle.

There may be fewer growth opportunities in the industry. This industry subgroup is in its consolidation stage i. Substitutes — one year from now: Currently the Carrycom, and other products in their industry segment, have automatic language conversion functionality and geographic region flexibility.

This market segment is currently in a strong position. Substitutes — five years from now: White expects that other products in the broader consumer electronics industry, such as PDAs, PCs, and other consumer electronics, will eventually be able to incorporate both functionalities and so therefore diminish the strength of this force for Carrycom and other products in their market segment.

Threat of new or potential entrants — one year from now: Wade has no threat of entrants into its market for the next three years because: a Wade has the exclusive ability to manufacture with ordinary copper, while other potential entrants do not have access to pari-copper, and; b Potential entrants do not have access to the exclusive production license for Carrycom technology.

In addition, the three-year exclusive production license expires. Intensity of rivalry — one year from now: Wade will experience only modest rivalry for three years as it has an exclusive production license for the next three years, which limits the availability of similar products. However, the broader electronics market may be integrating the automatic language conversion feature into its products after one year.

Intensity of rivalry — five years from now: After the license expires in three years, White expects other competitors to produce a number of similar products which will limit their pricing power. This demonstrates a high intensity of rivalry. Theoretically, dividend discount models can be used to value the stock of rapidly growing companies that do not currently pay dividends; in this scenario, we would be valuing expected dividends in the relatively more distant future.

However, as a practical matter, such estimates of payments to be made in the more distant future are notoriously inaccurate, rendering dividend discount models problematic for valuation of such companies; free cash flow models are more likely to be appropriate. At the other extreme, one would be more likely to choose a dividend discount model to value a mature firm paying a relatively stable dividend. It is most important to use multi-stage dividend discount models when valuing companies with temporarily high growth rates.

These companies tend to be companies in the early phases of their life cycles, when they have numerous opportunities for reinvestment, resulting in relatively rapid growth and relatively low dividends or, in many cases, no dividends at all.

As these firms mature, attractive investment opportunities are less numerous so that growth rates slow. The market capitalization rate is the market consensus for the required rate of return for the stock.

If the intrinsic value of the stock is equal to its price, then the market capitalization rate is equal to the expected rate of return. On the other hand, if the individual investor believes the stock is underpriced i.

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The forecast for current year earnings, however, is unchanged. This information is not yet known to the rest of the market. The solutions derived from Spreadsheet Therefore, we can use the constant growth model as of the end of year 2 in order to calculate intrinsic value by adding the present value of the first two dividends plus the present value of the price of the stock at the end of year 2. This is consistent with the DDM. When special information arrives, all the abnormalreturn accrues in that period, as one would expect in an efficient market.

This director is confused. In the context of the constant growth model [i. But everything else will not be constant. If the firm increases the dividend payout rate, the growth rate g will fall, and stock price will not necessarily rise.

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The sustainable growth rate i. Using a two-stage dividend discount model, the current value of a share of Sundanci is calculated as follows. Free cash flow to equity FCFE is defined as the cash flow remaining after meeting all financial obligations including debt payment and after covering capital expenditure and working capital needs.

The FCFE is a measure of how much the firm can afford to pay out as dividends, but in a given year may be more or less than the amount actually paid out. The FCFE model requires forecasts of FCFE for the high growth years and plus a forecast for the first year of stable growth in order to to allow for an estimate of the terminal value in based on perpetual growth.

Alternatively, the components of FCFE can be projected and aggregated for each year. The following table shows the process for estimating Sundanci's current value on a per share basis. The DDM uses a strict definition of cash flows to equity, i. In fact, taken to its extreme, the DDM cannot be used to estimate the value of a stock that pays no dividends.

The FCFE model expands the definition of cash flows to include the balance of residual cash flows after all financial obligations and investment needs have been met.

In instances of a change of corporate control, and therefore the possibility of changing dividend policy, the FCFE model provides a better estimate of value. It is considered a conservative model in that it tends to identify fewer undervalued firms as market prices rise relative to fundamentals.

The DDM does not allow for the potential tax disadvantage of high dividends relative to the capital gains achievable from retention of earnings. Both two-stage valuation models allow for two distinct phases of growth, an initial finite period where the growth rate is abnormal, followed by a stable growth period that is expected to last indefinitely.The price predicted by the duration rule is 7.

Additionally, portfolio duration assumes that all yields change by the same number of basis points parallel shift , so any non-parallel shift in yields would result in a difference in the price sensitivity of the portfolio compared to the price sensitivity of a single security having the same duration. It offers insights into the financial habits of management and potential future policies. Even though U.

As these firms mature, attractive investment opportunities are less numerous so that growth rates slow.

Quality: High Quality.

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