Problem 1

A zero coupon bond is currently priced at £92.70 and it expires in 3 years, what is its annual
redemption yield? What is the real rate of return on this bond if the inflation rate is 2.2%?

Problem 2
Bill, Jim and Shelly are all looking to buy the same stock that pays dividends. Bill plans on
holding the stock for one year. Jim plans on holding the stock for three years. Shelly plans on
holding the stock until she retires in 10 years. Which one of the following statements is
correct?

a. Bill will be willing to pay the most for the stock because he will get his money back in one
year when he sells
b. Jim should be willing to pay three times as much for the stock as Bill because his expected
holding period is three times as long as Bill's
c. Shelly should be willing to pay the most for the stock because she will hold it the longest
and hence she will get the most dividends
d. All three should be willing to pay the same amount for the stock regardless of their holding
period

Problem 3
Calculate the final bond price (clean price + accrued interest) assuming that the bond below
was bought on 31st of Aug 2017. Minimum lot 100, face value: £100

Ccy Issuer Coupon Date Price Yield

GBP Tesco Plc. 5.5% 11 Oct 2022 112.25 4.9%

NB: With the majority of non-Gilt bonds, the basis of this accrued interest is calculated on a

"30/360" basis. This assumes that each month has 30 days, and each year has 360 days.

For Gilts the accrued interest is calculated on “actual/actual” basis, where the true number of

calendar days is used to determine the apportionment of the coupon

The market price on 31st of August 2017 was 112.25p, settlement on the same day.
The bond pays a coupon annually and the last payment was on 11 October 2016.

(Period 11 October 2016 through to 31st August 2017 = 319 days on a 30/360 basis)

Problem 4
Your client wishes to invest £10,000 in the stock market.
a) explain what her options are;
b) assuming an expected 6% return on shares, compare the return from investing directly in
the shares (in £) and the return on an investment trust with annual charge of 1% on its Net
Asset Value (NAV) and that sells at a 20% discount.
c) How would the results change if the discount on the fund shares was 10%?
Transaction costs are assumed to be zero

Problem 5
An investor has £50,000 to invest, compare the net dividend yield from the following options,
assuming an average yield of 5%:
a) direct investment in a portfolio of shares
b) investment in an open-end actively managed fund with annual management fees of 2%
and annual transaction costs of 1%.
c) Investment in a tracker fund (passively managed), with management costs of 0.5% and
annual trading costs of 0.1%.
d) Investment in an investment trust (close-end fund), with management fees of 1%,
transaction costs of 1% and shares selling at a 15% discount of NAV.
e) Explain what other factors should be considered by the investor beside the return on the
different alternatives above

Questions: 8.2, 8.6, 8.7, 8.8, 8.9, 8.10

Question 3