Value of Financial Instrument
Value of Financial Instrument
It can be noticed from the above-provided table that Microsoft (AAA) has less yield to maturity as compared to others. The negative relationship is observed between rating and yield to maturity. The B-rated company that is Goldman Sachs has higher yield to maturity as compared to others. The highest yield-to-maturity rate is of Rolta that is 6.9 as the company is rated the lowest in the market regarding bonds .
The coupon rates and yield-to-maturity are determined by comparing it with other bonds available in the market. The bonds are traded at par value that is a fixed rate. They are sold in the market at a premium if the rating of the company is high and at a discount when the rating is low. It can be noticed that if a company offers a coupon rate higher than the current interest rate, it is said to be issuing the bonds at a premium. In this way, investors can estimate the value they will be paying and determine their return of the holding period.
If the maturity time increased by five years, the return would have increased, but there will be no effect if the maturity decreased by five years. While the price of the bond would decrease in case of increased or decreased in the maturity period .
The CAPM model reveals that beta and a risk-free rate of return is used along with the market research to determine the required rate of return on each investment. There is a slight increase in the value of each stock that shows all the companies are expected to provide high returns coincide with the market
The Gordon Model indicates that there is a high difference between the actual price and estimated price. The prices of each stock are overvalued, and the absence of other factors is the main reason. Goldman Sachs is expected to show negative growth in the coming year according to the market estimations (yahoo finance, 2016).
The P/E ratio is used to determine the estimated stock price of each company. It is proved to be the useful model as it reveals the values that coincide with the current price of the company in the market. In fact, there is no change in the values that indicates it is a reliable model that can provide actual results. The estimations of Rolta is missing as the analysts cannot predict or estimate the growth of the business due to lack of information or undisclosed facts and figures .
It is observed that the growth rate of stocks has a significant positive relationship with required rate of return as it is used to determine the expected rate of return on investment. However, the dividend paid has also a strong positive relationship with estimated value of stocks as it determines the value of stock in the next year.
The values of Gordon model are much lower than the current values of stocks. It determines that Gordon model has some weaknesses. It does not consider the customer retention, brand loyalty, and intangibles as they increase the value of the company. The model is based on assumptions that growth rate is stable.
The P/E model is the most accurate to determine the estimated value of stocks as it is similar to the current price of stocks in the capital market.
The increase in the growth rate will ultimately increase the estimated stock price (using Gordon Model) and vice versa. The increase in dividend paid will result in the increase of estimated stock price (using Gordon Model) and vice versa. The Gordon Model estimated stock price will also increase due to the increase in required rate of return. The increase in estimated earnings per share will result in the increase or decrease in the estimated stock price (using P/E ratio).
References
Brigham, E. F., & Daves, . R. (2014). Intermediate Financial Management. Boston, MA: Cengage Learning.
Microsoft . (2016). Retrieved from http://finance.yahoo.com/q?s=MSFT&ql=1
