Albay, Jeremy James G.

BSA-3A
Assignment 5: Equity markets – market microstructure and strategies

1. Should you still consider purchasing Olympic stock in light of the analysts’ arguments
about why it may be undervalued?

I will still consider purchasing Olympic stock because I believe it is indeed undervalued
by the fact that is undergoing restructuring. This will take a large hit for the upcoming quarterly
earnings but the restructuring is expected also to improve Olympic’s future performance which is
the more important factor to consider in investing to its stocks. It has logical reason why it is
undervalued for now and I believe I could trust the analysts’ arguments for this particular
company. I’m investing with a long-term mindset rather than the short-term which is yes, the
stocks for when the restructuring starts will take a dip in value but I shouldn’t worry because it
will improve soon too after the fact.

2. Should you still consider purchasing Kenner stock in light of the analysts’ arguments
about why it may be undervalued?

Now, this particular situation I should be more careful than the Olympic stocks because I
think there is a misleading interpretation to Kenner company’s situation. According to the
analysts, Kenner is undervalued in PE ratio alone, 9 versus PE ratio of 11 in its industry. Yes that
might be true, but other information regarding the company itself is important to consider too
before investing, such as the fact that Kenner has not kept up with new technology and may lose
market share to competitors in the future. In my opinion, this is enough evidence that I shouldn’t
consider in purchasing Kenner’s stocks because that lag in technology innovation might lead to a
fall in Kenner’s value as a company in the future and I don’t want to risk it despite of the
undervalued assessment in terms of PE ratio. At least in Olympic’s situation, it has reasons why
it is undervalued, but for Kenner, it is also reported that they are having decent earnings in recent
years yet they are undervalued? This might mean that the lag in technology might kept them
really undervalued and not rise in value in the future.

3. Some stock analysts have just predicted that the prices of most stocks will fall because
interest rates are expected to rise, which would cause investors to use higher required
rates of return when valuing stocks. The analysts used this logic to suggest that the
present value of future cash flows would decline if interest rates rise. The expected
increase in interest rates is due to expectations of a stronger economy, which will result in
 an increased demand for loanable funds by corporations and individuals. Do you believe
that stock prices will decline if the economy strengthens and interest rates rise?

No. I don’t believe that stock prices might decline but not 100%, I will discuss in a sec.
For the reasoning that it might do, because of the fact that the interest rate is expected to rise.
Companies prefer lower interest rates because this means the cost of borrowing will be less and
makes them more profitable. So, if the interest rates increase, cost of borrowing will also
increase and will make less earnings thus lowering the company’s value. Plus, if the real interest
rate increases, the risk premium needed for stocks will also be increased thus making the stock
price go down to compensate that. Now, the only thing that contradicts this expectation was from
the fact that the rise of interest rates comes from stronger economy and that contradicts
everything because good economy means good thing for companies and this affects positively
the firm’s value. Interest rates commonly rise in response to an increase in economic growth, so
pricing of stocks may rise in response to an increase in expected cash flows even if investors’
required rate of return rises. Overall, if growth in economy is not factored in, yes I believe that
stock prices might decline, but if interest rates rise because of stronger economy, then there are
times that despite of the increased rate of return for investors, stock prices may still rise and not
decline because of the fact that there will be an increase in expected cash flows when the
economy is good.