You have just done a regression of monthly stock returns of HeavyTech, a manufacturer of heavy machinery, on monthly market returns over the past five years and come up with the following regression:
The variance of the stock is 50 percent, and the variance of the market is 20 percent. The current Treasure bill rate is 3 percent (it was 5 percent one year ago). The stock is currently selling for $50, down $4 over the past year, and has paid a dividend of $2 during the past year and expects to pay a dividend of $2.50 over the next year. The NYSE composite has gone down 8 percent over the past year, with a dividend yield of 3 percent. HeavyTech has a tax rate of 40 percent.
a. What is the expected return on HeavyTech over the next year?
b. What would you expect HeavyTechâ€™s price to be one year from today?
c. What would you have expected HeavyTechâ€™s stock returns to be over the past year?
d. What were the actual returns on HeavyTech over the past year?
e. HeavyTech has $100 million in equity and $50 million in debt. It plans to issue $50 million in new equity and retire $50 million in debt. Estimate the new beta.