1. Which of the following is true?
If the risk level of a stock decreases and everything else remains the same, the intrinsic value will decrease
If the risk level of a stock decreases and everything else remains the same, the intrinsic value will increase
If the rate of growth of dividends increases and everything else remains constant, the intrinsic value of the stock does not change
Different classes of shares are always different in terms both dividend policies and voting rights.
Preferred stock can be modeled as a stock paying always the same dividend. Assuming this is true, then the intrinsic value of preferred stock can be estimated using Gordon's growth model.
2. Consider a 10-year zero coupon bond.
A. Using the bond pricing equation, P(y), illustrate the derivation (using calculus) of this bond’s modified duration. Note: the correct answer is an equation, not a number.
B. Assuming the yield-to-maturity is 5%, compute the bond’s modified duration.
C. Use your answer to part B to estimate the price of the bond and the percentage price change if interest rates instantaneously rise to 6%.
D. Use your answer to part B to estimate the price of the bond and the percentage price change if interest rates instantaneously decline to 4%.
E. How do the estimates from C. and D. compare to the true prices using the bond pricing equation P(y) if yields change to 6% and 4%? Is the estimate more accurate for part C. or D., and why?