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For parts a and b, use a risk-free rate of 1.5% and a market risk premium is 5%.

a. The bakery Factory, Inc (MUFFIN) currently trades for $36.71 per share. You expect the stock to pay a dividend of $1.7 per share in one year, and to trade for $37 per share immediately after the $1.7 dividend is paid. MUFFIN’s beta is 0.45.

i. What is MUFFIN’s alpha?

ii. What portfolio P, combining the market portfolio and the risk-free asset, has exactly the same beta as MUFFIN? (You have to find the weight on the market portfolio, ??m, and the weight on the risk-free asset, ??f, such that your portfolio beta, ??p, is equal to the beta of MUFFIN stock.)

b. Macie’s, Inc (M) plans to issue 10-year bonds. It believes the bonds will have a BB rating. BB bonds have a default probability of 2.2%, a 60% expected loss rate in the event of default and a beta of 0.17. Estimate the yield Macie’s will have to promise its investors.

(please show all working and formulas)


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