WACC
What is the Weighted Average Cost of Capital (WACC)
WACC is the average of firm’s cost of equity and (after-tax) cost of debt that is weighted based on the firm’s capital structure or on the project’s capital structure
What does it mean that a stock beta coefficient is higher than 1?
That its risk is higher than the market risk
In calculating the cost of the individual components of a firm’s financing, for which is the corporate tax rate important?
It’s important for debt.
What is the expected excess market return within the framework of CAPM?
The difference between the return on the market and the risk-free rate
¿What is the WACC used for in the valuation of investment projects?
To discount the FCF to obtain the PV
The covariance between Astro Corp. and the S&P 500 is 0.30. The standard deviation of the stock market is 25%. What is the beta of Astro?
4.8%
How does tax affect the valuation of corporate projects? Through which channels?
FCF and WACC
The risk-free rate and the expected market rate of return is 0.06 and 0.12 respectively. According to the CAPM, what is the expected return on security X with a beta of 1.2?
13.2%
Is this statement correct: “If a project IRR equals its WACCl, then the project NPV must be zero”?
Yes, it is
The correlation between a stock and the market is 0.7. The standard deviation of the stock is 15% and that of the market is 10%. Calculate the Stock beta. Hint: correlation coefficient (stock, market) = [covarianza (stock, market) / (standard deviation stock, standard deviation market)].
1.1
Why would an investor want to invest where the CML (Capital Market Line) and the Efficient Frontier intersect? What is the significance of this point?
It is the point with the optimum return-risk trade off. By investing part of my portfolio (less than 100% or more than 100%) in this point, combined with an investment in the risk-free asset (positive or negative - leveraged) I achieve the highest positive return for the different levels of risk
The risk-free rate is 5% and the market risk premium is 10%. The beta of Stock A is 1.4 and its standard deviation is 30%. What is the expected return of Stock A according to the CAPM?
19%
Blue Corporation's common stock market value is $10 million and the company has outstanding long and short term bonds amounting $20 million, with an after tax cost of debt of 5%. The beta of the company's common stock is 1.5 and the expected market risk premium is 10 percent. If the Treasury notes rate is 2%, what is the company's weighted average cost of capital?
9%
Which of the following statements about beta is true?
a) A negative beta indicates that the stock is less risky than the market.
b) Beta measures the total risk of an individual stock.
c) A beta of 0 means the stock has no risk.
d) Beta is a measure of systematic risk.
d) Beta is a measure of systematic risk.
A portfolio consists of one risky asset and one risk-free asset. The risky asset has an expected return of 13.2% and a beta of 1.32. The risk-free asset has an expected return of 1.5%. How much of the portfolio is invested in the risk-free asset if the portfolio beta is 1.02?
22.73%
As an Equity research analyst, you´re analysing an stock called Silicon Valley Cat and must determine if it´s a good investment for your clients or not.
The information you´ve gattered is the following. Beta = 1.3; risk-free rate = 5%; expected market return = 10%; and according to your expectations, the expected rate of return on the stock = 13%, but however the Cost of Equity estimated with CAPM is different.
Then the stock is?
Undervalued, we should buy
Overvalued, we should sell
Correctly priced, we should hold
Need more information to give a recommendation.
Undervalued, we should buy
ACK Corp has risk free debt and 30% of debt in their capital structure. The equity beta 1, with the yield on the t-bill being 1% and the S&P 500 return is 4%. The company pays 0 taxes. What is the WACC?
3.10%
We are interested in building a portfolio with a weighted beta of 1.2 and we would like to split our investment between Amazon, that has a beta of 1.8 and IE University, that has a beta of 0.8. What allocation should we make between the 2 assets?
40% Amazon and 60% IE University
Xray Co. has a standard deviation of return of 30 percent. Yankee Co. has a standard deviation of return of 25 percent. The correlation coefficient between the two stocks is 0.5. If you invest 60 percent of your funds in Xray and 40 percent in Yankee, what is the standard deviation of your portfolio?
Hints:
The formula for the Variance of a 2 assets portfolio, X and Y, is as follows (where W_x is the weight invested in X and W_y that invested in Y, and SD_x is the standard deviation of X while SD_y is the standard deviation of Y):
Var (X,Y) = [(W_x ^2) . (SD_x^2)] + [(W_y^2) . (SD_y^2)] + [2. W_x. W_y . (Correlation coef. x_y . SD_x . SD_y)]
And the SD of a portfolio is of course the squared root of its variance.
The formula for the CORRELATION COEFFICIENT is:
correlation coefficient (stock1, stock2) = [covarianza (Return stock1, Return stock2) / (standard deviation stock1 . standard deviation stock2)].
24.6%