READ THESEINSTRUCTIONS!
1. This exam is worth a total of 100 points.
2. You should electronicallysubmityour final examwith detailedcalculationsvia email to zlin@fiu.edu. You willtitlethe email “YOUR NAME – FINAL”. You will title the document “YOUR NAME – FINAL”. You will putyour name on atitlepage. Good luck!
Problem1 [10 points]
100
Stock
137
51
Bond (rF=2%)
102
100
102
Call(E=87)
50
C
0
1-yearcalloption,S=100,E=87, rF=2%(annual)
1 stepperyear
How much shouldthe calloption worth?
Iftotal returnafter taxona certain project is 7.5%,and thereare fivefinancingchoices available to investors:
(1)7%interest rateand a60%LTVratio; (2)7.8%interest rateand a70%LTVratio; (3)8.5%interestrateand a80%LTVratio; (4)9.25%interest rateand a90%LTV ratio; (5)9.75%interest rateand a95%LTV ratio;
Supposethat there arethreetypes of investors(A,Band C) whosetaxratesare15%, 25% and
35%, respectively. Questions:
(1) Find outthe financingchoiceforeach typeof investor and the correspondingafter-tax return on equity.
(2) Which typeof investor has the highest after-taxreturn on their equity?
You currentlyhave$2,500,000. You want to invest it in the followingthreeassets: 10-year US Treasurybondwith coupon rate 3.5%,BlandyandGourmangestocks, whohavethe following historical annual returns:
| Year | Blandy | Gourmange |
| 1 | 26.0% | 47.0% |
| 2 | 15.0% | –54.0% |
| 3 | –14.0% | 15.0% |
| 4 | –15.0% | 7.0% |
| 5 | 2.0% | –28.0% |
| 6 | –10.0% | 40.0% |
| 7 | 22.0% | 17.0% |
| 8 | 30.0% | –23.0% |
| 9 | –32.0% | –4.0% |
| 10 | 28.0% | 75.0% |
| 11 | 28.6% | 51.7% |
| 12 | 16.5% | –59.4% |
| 13 | –15.4% | 16.5% |
| 14 | –16.5% | 7.7% |
| 15 | 2.2% | –30.8% |
| 16 | –11.0% | 44.0% |
| 17 | 62.2% | 18.7% |
| 18 | 33.0% | –25.3% |
| 19 | –35.2% | –4.4% |
| 20 | 50.8% | 82.5% |
| 21 | 23.4% | 42.3% |
| 22 | 13.5% | –48.6% |
| 23 | –12.6% | 13.5% |
| 24 | –13.5% | 6.3% |
| 25 | 1.8% | –25.2% |
| 26 | –9.0% | 36.0% |
| 27 | 18.8% | 15.3% |
| 28 | 27.0% | –20.7% |
| 29 | –28.8% | –3.6% |
| 30 | 25.2% | 67.5% |
Yourgoal is tohavetheexpected annual return of7.2%with a minimum portfolio risk. How much moneyshouldyouallocate to thesethree assets?
Problem4 [30 points]
A real estate investor hasthe followinginformation on an apartment building:
PurchasePriceis $1,125,000 with acquisition costsof $35,000
33,600 leasable squarefeet
Initial rent of $1.5/sq. ft. permonthand willincrease at thebeginningofeachyearfor
5 percent peryear.For example, the firstyear rent from month 1 to month12 is
$1.5/sq. ft., the 2ndyear rent from month 1 to month 12is $1.575 ($1.5*(1+5%)), and so on.
Vacancyrateof 5%ofgross rent permonth.
Operatingexpenses are25%of effectivegross income
Threefinancingchoices:
1. Mortgagewith75%LTV ratio, 20years, monthlypayments and 5%annual rate;
2. Mortgagewith80%LTV ratio, 20years, monthlypayments and 6% annual rate;
3. Mortgagewith85%LTV ratio, 20years, monthlypayments and 6.5% annual rate;
Holdingperiod is 3years(36 months) and the capital improvement expenditureis assumed to be $20,000 atthe end of the firstyearonly(12 months).
Expected increasein valueis 50%in total when soldinyear 3 (36 months), 5%
sellingexpenses
75%depreciable with monthlydepreciation.
Investor’s taxrate is 35%, and capitalgain taxrateis 15%.
Questions:
1. Compute equityafter-tax cash flows from month1 to month 36for each financingchoice.
2. What is the equityafter-taxannualreturn (internal rate ofreturn)foreach financingchoice and which choicewouldyou liketo make?
Problem5 [15 points]
Based on theCapital Asset PricingModel (CAPM) and the diagram below,what is the return of the stock if its beta is 1.5 or 0.5?
10%
3 %
RF 3.5%
1
RM 12%
Problem6 [15 points]
ComputetheIRR, NPV,PI, and payback period for thefollowingtwo projects. Assume the required return is 12%.
| ProjectA | ProjectB | |
| Year | Cashflow | Cashflow |
| 0 | -2500 | -2500 |
| 1 | 900 | 50 |
| 2 | 800 | 600 |
| 3 | 1600 | 150 |
| 4 | 100 | 900 |
| 5 | 50 | 500 |
| 6 | 300 | 2500 |