Question

10. Bond pricing Aa Aa Understanding Bond Pricing Suppose your friend tells you that she recently purchased a 10-year $4,000.00 bond with a 5% coupon. A month later, she saw it quoted at 99.625, but she does not know what this means. You can tell by the way the bond is priced that she has a been priced You explain that the market price of her bond is now now a bond. bond; otherwise it would have , meaning it is Based on the market price of the bond you calculated, you can tell that market interest rates have gone since the bond was issued. The current yield of the bond is now

Answer 1

1-a). She has a Discount bond as it is priced less than par.

1-b). Otherwise it would have been priced at par, i.e, $4,000.

1-c). Market Price of Bond = 99.625%*$4,000 = $3,985

1-d). So, it is a discount bond.

2-a). Market Interest Rates have gone up as the bonds have now been discounted at a higher rate, which results into its price been less than the par.

2-b). Current Yield = Annual Coupon Payment / Current Bond Price

= [5% * $4,000] / $3,985 = $200 / $3,985 = 0.0502, or 5.02%