Question

Your employer has set up a bonus compensation plan to reward its top employees. By virtue of your superlative performance this past year, you are eligible for your choice of the following investments:

A) $10,000 par value 8% annual coupon rate bond issued by Eeeny Corporation. The bond matures in 7 years and makes semi-annual coupon payments.
B) 100 shares of Meeny Company’s preferred stock that pays an annual dividend of $9.
C) 150 shares of common stock from Miney-Mo Incorporated. Miney Mo’s most recent dividend was $1.25 per share and their expected annual rate of growth is 9%.
Assuming you have a required rate of return of 12%, which investment should you choose? Why?

Answer 1

Among the three options, the investment choice should be the bond issued by Eeeny Corporation. It matches your required rate of return of 12%, making it a suitable option.

Step-by-step explanation:

Among the three investment options, you should choose the bond issued by Eeeny Corporation. The bond has a par value of $10,000 and an annual coupon rate of 8%. It matures in 7 years and makes semi-annual coupon payments. To determine whether it's a good investment, we need to compare the yield, or total return, to your required rate of return of 12%.

Considering that the yield on the bond will be ($1080 - $964) / $964 = 12%, which is equal to your required rate of return, it makes the bond a suitable choice. The yield represents interest payments plus capital gains, and in this case, it matches the 12% rate you are looking for.

The other investment options, Meeny Company's preferred stock and Miney-Mo Incorporated's common stock, may offer different potential returns, but given the provided information and your required rate of return, the bond from Eeeny Corporation is the best choice.