Fraction of your money will be invested in risk-free bonds

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You own some shares of Microsoft worth $1,000. Beta of Microsoft is 2. Microsoft currently has no debt. Microsoft decides to issue debt and buy back some of its stock in open market. Specifically, Microsoft decides to buy back 20% of its stock using ALL the proceeds of a new issue of risk-free bonds. Corporate tax rate is zero. You decide to not sell any part of your shares.

c) After the company is levered, you decide to sell some of your shares and invest the proceeds in risk-free bonds. You want to do this ‘rebalancing’ so that your portfolio (shares+bonds) will have the same beta as the unlevered shares (beta of 2). Effectively, you want to undo the leverage of Microsoft. What fraction of your money will be invested in risk-free bonds?

Reference no: EM131448415

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