Question

A bond issued by CVS Health trades at a price of 113.83 for a yield of 4.20%. The bond has a modified duration of 15.92 years. The current Treasury bond with a similar maturity trades at 2.34%. If CVS were downgraded and the spread were to increase to 200 bp, what would the new price be?

Answer 1

Current Price of Bond = $113.83

Current yield of CVS Bond = 4.20%

Treasury Bond yield = 2.34%

If CVS were downgraded, Spread were to increase to 200 bp (i.e 2%)

Spread = Bond yield - Treasury Bond's yield

Thus, New Bond's yield:

= Spread + Treasury Bond yield

= 2.00%+2.34%

= 4.34%

Change in Bond's yield = 4.34%-4.20% = 0.14%

Change in Bond's Price:

$\textup{= -modified duration*change in yield}$

New Price of Bond:

$\large = \$111.29$

Hope this will help, please do comment if you need any further explanation. Your feedback would be highly appreciated.