MSO3610 FINANCIAL DATA ANALYSIS

Suggestions on assembling your solutions using your phone:

Below are some free apps that can scan and assemble your answer paper.  There are many other similar apps also available.  It is recommended that you try these ahead of time to make sure you  are confident about using one of these apps and that it will work for you:

For Android phones:

· Scanbotby doo GmbH

· Scanner Freeby Free Apps & Tools Studio

· Microsoft Office Lensby Microsoft (although this only allows the PDF to be uploaded to a OneDrive account).

For iOS devices:

ATTEMPT ANY FOUR QUESTIONS

Question 1

(a) Briefly describe the difference between simple interest and compound interest.   [3 marks]

(b) How much would an investment of $8575 @ 4.3%/annum simple interest be worth after 5 years? Calculate the interest on this investment.          [2 marks]

(c) How much would an investment of $6330 @ 3.3%/annum compound interest (compounded annually) be worth after 4 years? Calculate the interest on this  investment.             [2 marks]

(d) How much would an investment of $6005 @ 3.7%/annum (nominal rate)

compounded monthly be worth after three years and seven months? Calculate the interest on this investment.     [3 marks]

(e) Calculate the APR of an investment paying a nominal rate of interest of 3.35%/annum compounded weekly.     [3 marks]

(f) If we invested $6305 at 3.25%/annum (nominal rate) compounded continuously for 18 months, how much would our investment be worth at the end of this period?     [3 marks]

(g) Banks often charge customers interest based on daily compounding. Briefly outline why they do this.     [4 marks]

(h) If GBP1.0000 = USD1.6203 and annual interest rates in GB are  0.25%  and

USA  are 0.19% calculate the 8 month forward rate of exchange. You must use the continuous compounding method. [5 marks]

Question 2

(a) Briefly describe the concept of Present Value.         [2 marks]

(b) A project has the following cash flows:

YEAR CASH INFLOW CASH OUTFLOW

0                          0                            £8400

1                         £6600                    £4000

2                          £7900                     £4000

3                          £6100                     £3000

4                          £4100                     £2000

Calculate the NPV if the interest rate is 2%.

Calculate the NPV if the interest rate is 4%

Estimate the IRR of the project.                                [6 marks]

(c) Explain why we are interested in finding the IRR of a project.             [3 marks]

(d) Briefly describe the difference between arepayment mortgage and an interest only mortgage.

Given that an individual can either take arepayment mortgage or an interest  only mortgage at the same rate and the same term which one will cost more?

Why would someone choose the more costly option?        [5 marks]

(e) A repayment mortgage of £120,000 secured on a house charges 3.25%/annum nominal rate compounded monthly over 25 years. Calculate the monthly payments.                [4 marks]

(f) What is the value of a bond with a redemption value of $1,000 @ 4.5% nominal interest payable twice annually and redeemable in 2 years? The prevailing interest rate is 2.2%.

You must use continuous compounding discounting.          [5 marks]

Question 3

(a) An asset worth initially €10,000 can either rise by 5% per day (with probability 0.6) or fall by 5% per day (with probability 0.4). Using the Binomial Distribution calculate:

(i)      The probability that it will rise for two days and fall for one day in any order over a three day period.   [3 marks]

(ii)     The value of the asset if the situation in Part (a)(i) occurs.   [2 mark]

(iii)    The mean value of the asset after three days.   [8 marks]

(b) A loan department in a bank expects 2.5% of short term loans not to be repaid each month. They make 280 loans in the course of January. They believe the   number of defaults in a month follows a Poisson distribution. Calculate:

(i)      The probability that none of these loans will default in February.     [3 marks]

(ii)     The probability that 1 or 2 of these loans will default in February.        [3 marks]

(iii)    The probability that 3 or more loans will default in February.          [3 marks]

(iv)    Briefly explain when it is appropriate to use a Poisson distribution.          [3 marks]

Question 4

(a) In a back office of an investment bank the staff reconcile transactions. It is

thought that the time taken in minutes for a member of staff to reconcile each transaction is governed by the exponential distribution with pdf:

f(x) = { 0.03exp(-0.03x) for x≥0

{ 0 for x<0

(i)      Find the probability that it takes less than 20 minutes to reconcile a transaction.   [2 marks]

(ii)     Find the probability that it takes between 20 and 40 minutes to reconcile a transaction.   [2 marks]

(iii)    Find the probability that it will take over an hour to reconcile a transaction.   [3 marks]

(iv)    How many transactions would you expect a member of staff to reconcile in one hour?  [4 marks]

(v)     Explain when it is appropriate to use the exponential distribution.   [3 marks]

(b) Explain the importance of the Normal distribution.   [4 marks]

(c) The share price of Company A is thought to follow a normal distribution

with mean €6.55 and standard deviation €1.22.

Calculate the probability that:

Question 5

Consider the following data of monthly returns based on the closing prices on the last trading day of each month:

Assume the risk free monthly return is 0.001 throughout this period.

(a) Calculate the correlation coefficient between Share C returns less the risk free monthly return and Market returns less the risk free monthly returns.  [9 marks]

(b) Use the Capital Asset Pricing Model:

(RC,t – RF,t) = αC  + βC × (RM,t – RF,t) + eC,t

and the method of least squares to estimate the values of αC  and βC.   [7 marks]

(c) Based on these estimates write down the equation that links the excess share return to the excess market return.  [4 marks]

(d) What can you conclude from the correlation coefficient and the estimated values of αC and βC? [5 marks]

Question 6

(a) Briefly describe the main characteristics of a European call option.   [3 marks]

(b) You have written a European call option for 1000 shares in Company B. The strike price is €30.00 per share and the option price €1.75 per share.  The current share price is €31.20 and the option will expire in 90 days.

At the expiration date the share price is €34.25.

Explain and quantify your financial situation on the expiration date.

You can assume that you have not taken any additional action that will limit the loss or gain.  [6 marks]

(c) Explain why writing a call option can be risky and give an example.   [4 marks]

(d) Referring to the situation in Part (b) explain and quantify the holder’s financial situation on the expiration date.

You can assume that the holder has not taken any additional action that will limit the loss or gain.   [4 marks]

(e) Outline the risk involved to the holder of a call option.   [2 marks]

(f) Referring to Part (b) and assuming the continuous compounding interest rate is 3% what would you expect the price of a Put option to be at the time you wrote the call option?    [6 marks]