Discussion 3 (awais)
In the given discussion, I am buying a house on mortgage and the amount of money I am loaning is $400,000 at 6.5% APR. My monthly payment for next 30 years will be $2,528.27.
On the other hand, if I accept the bank’s offer and buy a point which is worth $4,000, my loan amount will reduce to $400,000 and my APR will reduce to 6.25%; my monthly payment will reduce to $2,462.87.
By buying the point I will have to pay $4,000 upfront and doing so will save me $65.4 every month.
Considering the facts above I will have to calculate the amount of time it will require for me to recover my $4,000 through savings on payment. Therefore;
Down payment/Saving on payments every month
= $4,000 / $65.4
= 61.16 months
61.16 months / number of months in a year
= 61.16 months / 12 months
= 5.1 years
Based on the calculations above, it will take me 5.1 years to recover $4,000 that are required to buy a point. Thereon, I will be saving $65.4 every month on my mortgage payment. Therefore, I will only buy the point if I am planning to stay in the house for any amount of time longer than 5.1 years.
- If I am planning to stay for less than five years, I should NOT buy the point.
- If I am planning to stay in the house for 5-15 years, I should buy the point as I will be saving $65.4 every month after the first payment of the sixth year.
- I should definitely buy the point if I am planning to stay in the house for the whole duration of 30 years as I will be saving $65.4 every month after 5.1 years.
However, these calculations do not include the rules of time value of money since $4,000 today are more valuable than if payed over a period of 5.1 years. My answers may change based on the interest rate I am getting if I invest the same amount of $4,000 somewhere else.
Berk, J., DeMarzo, P., & Harford, J. (2021). Fundamentals of Corporate Finance. 5th Edition. New York: Pearson
A – Why do some have a dividend, and some do not?
Some investors are willing to invest their money in companies that are the excellent payer of dividends; on the other hand, other investors have a preference to invest in growth stocks. Conforming to Graham & Kumar (2006), who conducted research with more than 60,000 U.S. households, retail investors prefer growth companies. Moreover, institutional investors prefer to invest in companies that pay dividends. However, it is fundamental for any investor to know how to choose a company and analyze its operation and profits.
According to O’Shea & Davis (2022), corporations that pay dividends tend to be well-established, and their operations provide profits and cash flows. Additionally, financially unhealthy companies cannot provide dividends to their shareholders. Thus, it can be concluded that a dividend payer company could be considered a low-risk investment. On the other hand, growth and reliable companies do not pay dividends because they believe that the best decision is investing their profits in their business to grow and increase their value. For example, Dell Technologies, Alphabet Inc., Berkshire Hathaway, and Amazon are some big companies that do not pay dividends.
Another reason contributing to dividend-paying stocks is the tax advantages that dividends offer to an investor. According to IRS rules, the qualified dividends are taxed as capital gains at rates of 20%, 15%, or 0%, depending on the tax bracket, and ordinary dividends are the same as standard federal income rates tax (Maverick, 2022). However, shareholders pay taxes when they receive their dividends, and it could be less attractive for some investors that have a significant number of stocks. On the contrary, shareholders of growth companies only will pay taxes when they decide to sell a part or totality of their stocks.
B – As an employee, would you prefer to work for a corporation that pays a dividend or does not? Explain.
I do not have a clear preference because, on the one hand, great companies that pay dividends frequently have a perennial business, reliable brand, and rarely have financial problems. However, on the other hand, technologies companies that are non-paying dividends are still growing and incrementing values for their shareholders. Consequently, their success could be considered your success because you were part of that, which is essential for your career. So, for both cases being an employee could be a privilege.
C – As an investor, do you prefer one or not? Explain.
As an investor, I try to make a balance in my portfolio; thus, I have good companies that are considered good payers of dividends because I believe that these stocks reduce the risk of my portfolio in a period of a bear market. Additionally, I have growth stocks that provide a more significant potential for future cash flows and better return on my investment.
Graham, John R., Kumar, Alok. (2006) Do Dividend Clienteles Exist? Evidence on Dividend Preferences of Retail Investors – The Journal Finance, Jun. 2006, Vol. 61, pp. 1305-1336.
Maverick, J.B., (2022) Five Reasons Why Dividends Matter to Investors. Retrieved February 24, 2022, from Investopedia.com
O’Shea, Arielle., Davis, Chris (2022) 25 High-Dividend Stocks and How to Invest in Them. Retrieved February 23, 2022, from www. nerdwallet.com
Diversification is good for shareholders. So why shouldn’t managers acquire firms in different industries to diversify a company?
Diversification is used to reduce risks specially independent risks. Diversification is clearly good for shareholders and individuals who aim to maximize their returns and are focused on that. On the other hand firms and companies shouldn’t take that risk of diversifying in different industries because it will disturb their business and focus and it will generate higher common risks for their business and it create a lack of trust between them and the shareholders. Also a firm growth should not depend on diversification, buying other companies at a premium over market price will only create more complications.
Your spouse works for Southwest Airlines, and you work for a grocery store. Is your company or your spouse’s company more likely exposed to systematic risk? Explain.
Systemic risk is also referred to as market risk or undiversifiable risk, is not particular to a stock or industry but it affects the overall market. It is caused by factors that can not be controlled by the company. Exterior factors affecting the economy like wars, pandemics and interest rates. In the case above Southwest Airlines is more likely to be subjected to systemic risk than the grocery store, because it is more sensitive towards geopolitical risks and the general economy. Also traveling is a luxury, but everyday grocery is a necessity and humans depend on it.
Berk, J. B., DeMarzo, P. M., & Hartford, J. V. (2021). Fundamentals of Corporate Finance. 5th Edition. New York: Pearson.
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