Investment and Portfolio Management
Assessment 3
Instructions: This is an individual assessment. You are required to show all the formulas and calculations you perform. You are required to use hypothetical data in answering the case studies. Hypothetical data need be unique to each student and textbook examples should not be used. Upload your answers to the drop box as a word document before the deadline.
Case study 1
Part a.
You are an investment adviser. One of your clients approaches you for your advice on investing in equity shares of a company. Your predictions indicate that annual dividends of this company have a higher growth rate during the first four years and a lower growth rate thereafter forever. Estimate the price of an equity share of this company using an appropriate dividend discount model and advise your client whether they should buy a share of the company.
Your client is keen to know whether there are any positive growth opportunities from his investment. Explain to your client the meaning of this concept using appropriate calculations. 8 marksPart b.
You are a senior financial analyst of a firm based in Melbourne. You have been assigned with the task of training interns who recently joined your firm on how to use the free cash flow model to estimate the value of a company. You have collected data on the following:
Earnings before interest and tax (EBIT) for the previous year
Growth rate of EBIT per year forever
Depreciation for previous year
Capital investment in each year as a percentage of EBIT
The corporate tax rate
Weighted average cost of capital
Amount of debt outstanding
Change in working capital
Assume that the growth rate of depreciation is the same as that of the EBIT
Using the information you have collected above, prepare a table to explain to interns as to how the free cash flow to firm is calculated. 10 marksCase study 2
You are the portfolio manager of a large company that invests in many securities including corporate bonds. You have been invited as a guest speaker by the business school of a university to conduct a seminar on bond portfolio management. You need to explain to students how the duration of a corporate bond are calculated and explain to students how to use the duration you have calculated to determine the interest rate sensitivity of bonds. Further, the business school needs you to explain to students how convexity of a bond is calculated and explain the differences between convexity and duration and advantages of convexity over the duration. Assume that the maturity period of the bond is five years and the bond pays coupons semi-annually. 12 marks