Question

Need help solving problems A-E. If math is involved need them to be step by step.

Integrative Problems Robert Catapbeil and Carol Morris are senior vice presidents of the Mutua Chicago Insarance Corapany. They are codirectors of the company's pension fund managemenc division, with Campbell having responsibility for fixed- l of Bond Valuation me secunties (primarily bonds) and Morris responsible for equity invest- inco ments. A major aew client, the California League of Cities, has requested that Mutual of Chicago present an investment seminar to the mayors of the repre- sented cities. Campbell and Morris, who will make the actual presentation, have asked you to help them by answering the following questions. a. What are the key features of a bond? b. per year How do you determine the value of any asset whose value is based on expected future cash flows? How do you determine the value of a bond? What is the value of a one-year, $1,000 par value bond with a 10 percent annual coupon if its required rate of return is 10 percent? What is the value of a similar 10-year bond? , was c. ent value d. (1) What would be the value of the 10-year bond described in part (c) if, You can n (Equa- ear just after it had been issued, the expected inflation rate rose by 3 per- centage points, causing investors to require a 13 percent return? Is the security now a discount bond or a premium bond? (2) What would happen to the bond's value if inflation fell and r declined to 7 percent? Would it now be a premium bond or a dis- count bond? What would happen to the value of the 10-year bond over time if the required rate of return remained at (i) i 3 percent or (ii) remained at 7 percent? What is the yield to maturity on a 10-year, 9 percent annual coupon, $1,000 par value bond that sells for $887.00? That sells for $1,134.20 What does the fact that a bond sells at a discount or at a premium tell you about the relationship between ra and the bond's coupon rate? (3) ese same e. (1)

Answer 1

As per rules I am answering the first 4 subparts of the question

a: Bond is a fixed interest bearing debt instrument.

Key features are:

1: It carries fixed interest

2: It represents debt of the business.

3: It needs to be repaid at maturity

4: Its price fluctuates with the market interest rates.

b: Value of an asset with future cash flows is determined as the present value of the future cash flows. Hence it is the sum of discounted cash flows arising in future.

C: Value of the bond= Sum of discounted coupons+ discounted Par value

Value of 1 year bond will be $1000-same as par value since the coupon rate is equal to the discount rate. Same applies to a 10 year bond.

D: 1: Price of 10 year bond will be= Coupon*(P/A,13%,10)+ Par value/(1+0.13)^10

= 10%*1000*(1-1/1.13^10)/0.13 + 1000/1.13^10

=$837.21

This is a discount bond