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Question: part 3 bonds and risk management 10 marks cqe has...

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Part 3 Bonds and Risk Management (10 marks)

 

  1. CQE has determined that it needs to raise more capital to cover cash outflows during the Coronavirus epidemic. Its Chief Financial Officer (CFO) suggests issuing unsecured debt, and is considering the following two options – answer each question regarding the options:
    1. A five year Zero-Coupon bond with a face-value of $100. The CFO believes that the bond can be sold for $87.3.
      What is the implied discount rate on the zero-coupon bond? (1 mark)
    2. A five year 3% coupon bond. Face Value = $100. Yield to maturity = 2%.
      What price do you think the CFO could sell the 8% coupon bond for today? (1 marks)
    3. Calculate the duration of each bond (2 marks)
    4. If CQE expects that shopping centers are likely to take one year to begin to provide significant returns, which of the two debt options do you think would be preferred by CQE? Why? (3 marks)

 

  1. CQE has identified a small, regional shopping centre in Queanbeyan, NSW which is available for sale. It is being sold cheaply because the owners are worried about paying their mortgage.  CQE offers to give them $10m today in return for a contract which allows them to buy the center any time in the next 4 years for a fixed price of $125m.
    Such a contract represents a ‘real option’. Identify the following:
    1. Exercise price, expiry, option cost (1.5 marks)
    2. How would you expect the price of the option to change if the expiry was increased? How about if there was suddenly increased uncertainty about where a new army base would be located, increasing property price volatility?
      How about if the option could only be exercised at expiry? 
      Provide brief justification for each of your answers (1.5 marks)
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