RWJ Chapter 5

Chapter 5 - How to Value Stocks and Bonds

Ross, Westerfield, Jaffe (8th edition) Corporate Finance.

There are two quizzes from this chapter; one quiz focuses on Bonds and the other quiz focuses on Stocks.

Need to know This chapter develops the valuation techniques of stocks and fixed income securities (a.k.a. Bonds).  Our focus is on sections 5.1 to 5.5. 

Bonds are valued either as an ordinary annuity or as a perpetuity (consols only).  You already know the  valuation techniques from Jordan Chapter 6.  The most difficult part of this chapter is the terminology and learning the interrelationships between the various bond components.  The most important relationship is that "If the  market price decreases, this implies that the yield to maturity has increased," and this is often expressed as "rate up, price down."  Also, since most bonds make coupon payments twice per year, make sure you can compute the  price and yield to maturity on semiannual coupon bonds.

Stocks are valued as a growing perpetuity. You will need to know how to use the Constant Growth Model (aka Dividend Discount), how to value non-constant/differential growth stocks, and valuation of preferred stock (0% growth).  This chapter has very little information about stocks that can be used as concept questions,  the discussion in section 5.8 on the Price-Earnings Ratio is probably useful but not testable.

Don't need to know - From Chapter 5, the First One-Hour Exam will not require you to make any calculations using material from section 5.6-5.8. 

This textbook has no instruction to assist in using calculators and spreadsheets.  You will need to be able to use a financial calculator for the quizzes and exams. Here are calculator links to assist you in learning to use the calculator.

Note, that your calculator is probably set to 12 payments per year and 2 decimal places. You need to change this to 1 payment per year and at least 4 decimal places.

1.  Watch the Chapter 5 Overview video.  Here is a link to the powerpoint slides used in this video.  Read the chapter.

2. The is another chapter where you should spend you time solving End-of-Chapter problems.  The only way to learn this material is to do this material. Below are audio solutions to various types of stock and bond valuation problems.

3.  Our textbook has only a limited discussion of the terms and teminology of bonds. If you want more information, you might want to view this optional Bond Video Material.

4. Our textbook has only a limited discussion of stocks terms and concepts.  If you want more information, you might want to view this optional Stock Video Material

4.  If you still find yourself missing problems, you should listen to the Hints on Solving Time Value of Money Problems.

5. Be prepared for a longish quiz on stock and bond valuation with a few concept questions.


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