BUS FPX 4070 Assessment 4 Evaluating Returns and Cash Flow Streams

Student Name

Capella University

BUS-FPX4070 Foundations in Finance

Prof. Name

Date

Problem 1: Portfolio Required Return

Determining the required rate of return for a $10 million investment fund composed of four stocks is essential for effective management. By considering the investments and betas of each stock, along with a market-required rate of return of 12 percent and a risk-free rate of 4 percent, we can compute the fund’s required rate of return.

Portfolio Beta Calculation: [ \text{Portfolio Beta} = \text{Total investments} \times \text{Stock A investment} \times \text{Beta A} + \text{Total investments} \times \text{Stock B investment} \times \text{Beta B} + \text{Total investments} \times \text{Stock C investment} \times \text{Beta C} + \text{Total investments} \times \text{Stock D investment} \times \text{Beta D} ]

[ = (0.30 \times 1.50) + (0.10 \times (-0.50)) + (0.20 \times 1.25) + (0.40 \times 0.75) = 0.95 ]

Required Rate of Return Calculation: [ \text{Required rate of return} = \text{Risk-Free Rate} + \text{Asset Weighted} \times (\text{Market rate of return} – \text{Risk-Free Rate}) ]

[ = 0.04 + 0.95 \times (0.12 – 0.04) = 0.04 + 0.95 \times 0.08 = 0.04 + 0.076 = 0.116 ]

Therefore, the required rate of return for the fund is 11.6%.

Problem 2: Required Rate of Return

Given a required return on an average stock of 14 percent and a risk-free rate of return of 6 percent, we can determine the required returns for two stocks and find the difference between them.

Calculation for Stock R: [ \text{Stock R’s Required Return} = \text{Risk-Free Rate} + \text{Stock R’s Beta} \times (\text{Required return rate} – \text{Risk-Free Rate}) ]

[ = 0.06 + 1.5 \times (0.14 – 0.06) = 0.06 + 1.5 \times 0.08 = 0.06 + 0.12 = 0.18 ]

Calculation for Stock S: [ \text{Stock S’s Required Return} = 0.06 + 0.75 \times (0.14 – 0.06) = 0.06 + 0.75 \times 0.08 = 0.06 + 0.06 = 0.12 ]

The difference between the required returns of Stock R and Stock S is (0.18 – 0.12 = 0.06), which is 6%.

References:

Borad, S. B. (2022, April 16). eFinance Management. Present value of uneven cash flow – all you need to know. Retrieved from https://efinancemanagement.com/investmentdecisions/present-value-of-uneven-cash-flows

Brigham, E. F., & Houston, J. F. (2019). Fundamentals of Financial Management. Retrieved from https://capella.vitalsource.com/reader/books/9780357088562/epubcfi/6/36[%3Bvnd.vst.id ref%3DM18]!/4/204/9:237[at%20%2Csho]

BUS FPX 4070 Assessment 4 Evaluating Returns and Cash Flow Streams

Geler, B. (2022, January 12). Smart Asset. What is the present value of an annuity. Retrieved from https://smartasset.com/retirement/present-value-of-annuity

Hayes, A. (2022, January 16). Investopedia. Cost of debt. What is the cost of debt? Retrieved from https://www.investopedia.com/terms/c/costofdebt.asp

Loo, W. B. (2021, October 5). Omni Calculator. Yield to maturity calculator. Retrieved from https://www.omnicalculator.com/finance/yield-to-maturity

Smyth, D. (2021, December 1). Sapling. How to calculate the fair value of a bond. Retrieved from https://www.sapling.com/7646916/calculate-fair-value-bond

Wall Street Prep. (n.d.). What is yield to call (YTC)? Retrieved from https://www.wallstreetprep.com/knowledge/yield-to-call-ytc

BUS FPX 4070 Assessment 4 Evaluating Returns and Cash Flow Streams