Question

1. U.S. Treasury has just issued securities with, $10,000 par value and a 4% coupon rate with semiannual coupons. The maturity of the bonds is 10 years. The first coupon payment will be paid six months from today. What cash flows will you receive if you hold this bond until maturity? What is the price, i.e. present value of the bond today if the yield is 6%?

Answer 1

If I hold this bond till maturity, I will get interest of $200 after every 6 months for the period of 10 years along with principle of $10,000. Thus I will get $14,000 back at the time of maturity including interest of $4,000 over the period of 10 years.

Since the interest is paid semi-annually, we will halve the yield and coupon interest and double the period in the PV formula. Since the yield is 6%, present value (PV) will be calculated as follows:

200/((1+3%)^1)+200/((1+3%)^2)+200/((1+3%)^3)+...+200/((1+3%)^20)+10,000/((1+3%)^20)=$8,512.25

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