Discount Rates and Risk Tolerance
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What's (in your opinion) discount rate for the following types of equities? How do you determine that rate?
a. A risk free equity (a Treasure Note- called risk free because if they can't pay, your money is worthless!)
b. A CD at a South America bank paying in their local currency
c. A stock in a company that has a secure stream of income from a long term contract customer.
d. A stock in a company that has an interesting business plan but no real operations as of yet (as NY Lotto says " A Dollar and a dream").
Provide references to aid in my understanding.
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The solution discusses the discount rates and risk tolerance.
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What's (in your opinion) discount rate for the following types of equities? How do you determine that rate?
a. A risk free equity (a Treasure Note- called risk free because if they can't pay, your money is worthless!)
The discount rate is used to determine the components of the cost of equity calculation. The cost of equity is the rate of return required by the company's stock. The risk-free rate is the rate expected from expecting from investing in a zero risk security. The yield on the long-term U.S. Government bond (10 year Treasury Note) is used as the risk-free rate (The information was obtained at http://www.zacks.com/education/articles.php?id=22 "Education: Value Investing").
The actual returns on a risk-free equity like the treasury bonds will be equal to the expected returns. Therefore, ...
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