E120 Honework 5 Due 0472072015 1. Accompany expects to have earings per share of $5 inthe coming year. The fra plans to pay outall ofits earnings as a dividend. With these expectations of no growth, the frm’ share price is $100. Suppose th firm could eut is dividend payout rate to 80% forthe foresceble future and reinvest the rest of the money. The expected retum on its investments is 5%. Assuming its equity cost of capital is unchanged, what effect would this new policy have onthe firm's stock pice? 2. Consider the same firm asin the previous question. Assume the firm decides to cut it dividend payout rate to 80% forthe foresoeable future and reinvest the rest ofthe money, But now consider tht the expected retum on its investments is 6Y4. Given its expected ‘earnings per share this year and its equity cos of capital are equal to those values computed in problem 1, what willbe th current firms stock price? Let 2 be a random variable with probability mass function p(:) such that (0 (1) =D3, p(2) = 03, w(8) = 0.1, and p(4 (6) Find E(2}) (b) Find By. — (2) (©) Fiad E(Z*] (@) Find Ez) (6) Phd Bjsin(2) +2-2} (f) Phd B(@ ~ B(Z))") (@) Find Var(z} oa, 4. Suppose that X and Y are andom variables such that Var(X] = Vai¥] = CovlX,¥] 1, find (@) Va(3—x) (b) Vac(2x +4) (9 Vax -¥) (@) Con(X,X), (©) Cov(x,X+¥) (9 Vex +¥—75. Suppose there are three students playing a game with an unbiased coin. ‘There is 1 ‘dollar on the table. And the coin willbe flipped twice. Student A get the money if two ‘tosses are head, student B get the money if two tosses are tll, and student C get the money otherwise. Now let X denote the money student A get, Y denote the money student B get, and Z denote the money student C get. Calculate the following (a) Bix] () Var) (6) Cov(X,¥), CovY,Z) (@) V(x +¥ +2) 5. Tom and Mike are betting on an unbiased dice. They roll the dice twice. ‘Tor will pay ‘Mike $10 if the sum is 12 and $1 if the sum is even but not 12. On the other hand, ‘Mike will pay Tom $8 if the sum is 3 and 81 ifthe sum is odd but not 3. Now let X denote the money Tom wil get (negative if he loses), and Y denote the money Mike will get (negative if he loses). Calculate () {X1, 1] () VariX1, Vaef¥] (6) Cox.¥) 7. A gambling book recommends the following “winning strategy” forthe game of roulette. 1 resoucendy hal gambler bet $1 on red. If red appears (which has probability 4), then the gambler should take her $1 profit and quit. If the gambler loses this bet (which has probability & of occurring), she should make additional $1 bets on red on each of the next two spins ofthe roulette wheel end then quit. Let X denote the sgambler’s winnings when she quits. (6) Find PrIX > 0] (b) Are you convinced thatthe strategy is indeed a “winning” strategy? Explain your (6) Pind BX] 8. You are playing a normal game of roulette, Let X denote the winnings when placing an ‘Bven bet (you win 81 if the ball lands in one ofthe 2,4, . 36 pockets). Let ¥ denote ‘the winnings when placing an Odd bet. Let Z denote the winnings when placing a 00 bet (you win $35 if the ball lands in the 00 pocket). Let W denote the winnings when placing a 1 bet (you win 835 ifthe ball lands in the 1 pocket). () Find Cov(X¥). (0) Bind Cov(X.2). (6) Find Cov(x,W), (@) Find Coe(y,W), ‘Note: there ae a total of 38 pockets on a roulette wheel, numbered 1,... 36, 0,009. The expected returns and variances (of returns) for two asets are: ‘ASSET | RETURN | VARIANCE 1 | _o10 O08 2 [035 0.09 (8) Calculate the portfolio expected retumn and variance for the weighte (0.20.8); ‘that i, invest 0.2 in asset 1, and invest 0.8 in asset 2 (B) Calculate the portfolio expected return and variance forthe weights (0.5,0.5) (©) Give the portfolio (consisting ofthe above two assets) which has an average return of 0.2. What is the varisce of that portfolio? (4) Give a portiolio (consisting of the above two assets) which has a variance of 0.16. (©) Suppose you can only invest in the above risky asets, what weights will yield a ‘minimutt-variance portfoio? What is the variance of return far this portfolio?