StudentShare solutions
Triangle menu

Inflation and Real Rates of Return - Essay Example

Not dowloaded yet

Extract of sample
Inflation and Real Rates of Return

Real interest rates can be positive as well as negative. A positive real interest rate indicates that the purchasing power of the individual is increasing while a negative interest rate shows that the purchasing power of the individual is decreasing if the individual invests at the nominal rate. From the calculations above, it can be understood that at the current level of inflation, if a person invests in 1-year Certificate of Deposits, he will end up with less purchasing power. It can be analysed in such a way that a higher inflation rate than the nominal interest rate means that the purchasing power is decreasing at a faster rate than the rate of return of the investment. 2. Duration (Bonds) a. Frederick Macaulay developed a method to measure the interest rate risk of a bond and called it Macaulay Duration. He felt that duration is a better “measure of the bond’s worth than its time to maturity because duration considers both the repayment of capital at maturity and the size and timing of coupon payments before maturity” (Macaulay Duration). Macaulay Duration is the weighted average term to maturity of the cash flows from a bond. The weight of each cash flow is determined by dividing the present value of the cash flow by the price (Macaulay Duration Definition). Duration measures a bond’s price sensitivity to interest rate changes. ...
Calculating V-: I/Y= 9% V- = $92.406 Calculating V+: I/Y= 11% V+ = $87.781 3. Price-Earnings Ratio a. False. The PE ratio is equal to the market price of the share divided by the earnings per share (EPS). If we are using the dividend discount model to estimate the share price, a higher beta would lead to a higher required rate of return. This would decrease the share price and as a result the PE ratio will decrease. b. True. The PE ratio tells us how much an investor is willing to pay for $1 of a company’s earnings. If the net income of a company is good then the investors will be willing to pay more for a dollar earned. The ROE is equal to the net income divided by the average shareholders’ equity. A higher net income means a higher ROE. c. False. If we are using the dividend discount model to estimate the share price, higher dividends will result in a higher share price. Higher share price will increase the PE ratio. When the plowback rate is higher the dividends will be lower. 4. Book Value a. The market to book value signifies how many times a company’s stock is operating per share compare to the company’s book value per share. The organization’s book value reflect historic costs, hence this ratio is significant in indicating the management’s success in adding value for its shareholders in case of the market value being higher than the book value. A high price to book value ratio means that shareholders expect the management of the company to create more value with the given level of assets. b. Common shareholders’ equity = (20,000 x 20) + 5,000,000 + 70,000 Common shareholders’ equity = $5,470,000 Book value per share = Common shareholders’ equity / Number of common shares outstanding Book value per share = 5,470,000 / ...Show more

Summary

1. Inflation and real rates of return a.  b. 3.4% c.  d. Inflation is the rise in the general price level for goods and services in an economy over a given period of time. The effect of inflation is that it reduces the consumer’s purchasing power. One dollar now buys fewer amounts of goods and services…
Author : slarson
Inflation and Real Rates of Return essay example
Read Text Preview
Save Your Time for More Important Things
Let us write or edit the essay on your topic
"Inflation and Real Rates of Return"
with a personal 20% discount.
Grab the best paper

Related Essays

Inflation in Saudi Arabia
It will also talk about the solutions and how the common people are affected because of inflation. Graphs will represent the changes in the rate of inflation for a period of 10 years. Introduction The development of the economy of Saudi Arabia occurred with the establishment and the expansion of the Saudi state in the past five decades.
19 pages (4750 words) Essay
Inflation.What are the costs of inflation Are there any benefits to inflation
Some economies have experienced significant economic growth over time but inflation has sometimes been a problem.It is one of the twin problems resulting from the alternating rises and declines in the level of economic activity or also known as the business cycle that causes macroeconomic instability. Inflation is a rise in the general level of prices
6 pages (1500 words) Essay
Quantitative easing and inflation
In most of the times when a country suffers from inflation the central bank of that country takes several steps to stop severe inflation and tries to minimise the prices of the goods and services (Hudson, 1982, p.67). The central bank of United Kingdom is known as “The Bank of England”.
8 pages (2000 words) Essay
Growth rates and inflation rate
Inflation entails an increase in the prices of basic commodities within a specified period of time.Growth rates indicate the size of the economy as a result government strategies such as creation of employment, increasing the level of investment, maintaining minimum wage, reducing interest rates and creating competition among other policies.
3 pages (750 words) Essay
Inflation and the Money Supply
Earlier, silver and gold served as money. Now that this commodity money gave way to paper currency and deposits, these monies were treated as fiat money which allowed the national monetary institutions to exercise their power to use them without any legal constraints.
8 pages (2000 words) Essay
Social Discount Rates
The second reason is to compare two projects that achieve the same objective but have different timeframes. For example a discount rate can be used to inform the choice between a lease option and a buy option for accommodation if trying to choose the most cost effective approach (Roll, 1977).
6 pages (1500 words) Essay
Inflation and Output
The view commonly taken is that inflation should be kept close to zero; prices should rise at no more than about 2 to 3 percent a year on average. This is because high inflation affects the economy adversely in a number of ways.
16 pages (4000 words) Essay
Effect of inflation on USA
the work will be to see what types of inflation it is possible to see in the USA, to estimate the role of inflation for the economic situation of the USA, to compare the data of inflation of the latest years. Inflation is a process inherent in the economy, in which the scope
13 pages (3250 words) Essay
The effect of inflation on stock prices
few goods’ is another classic definition of inflation (Little, Ken) and the remedy is to remove excess capital from the market by increasing short term interest rates thereby making money ‘more expensive to borrow’ (Little, Ken). However the relationship between stocks and
3 pages (750 words) Essay
Inflation
This means that the number of goods and services a dollar would buy would reduce over time. That is, the value of the currency would fall. It is also argued that a desired rate of
6 pages (1500 words) Essay
Get a custom paper written
by a pro under your requirements!
Win a special DISCOUNT!
Put in your e-mail and click the button with your lucky finger
Your email
YOUR PRIZE:
Apply my DISCOUNT
Comments (0)
Rate this paper:
Thank you! Your comment has been sent and will be posted after moderation