Question

Problem 14-10 Assume you have a 1-year investment horizon and are trying to choose among three bonds. All have the same degree of default risk and mature in 10 years. The first is a zero-coupon bond that pays $1,000 at maturity. The second has an 9.2% coupon rate and pays the $92 coupon once per year. The third has a 11.2% coupon rate and pays the $112 coupon once per year. a. If all three bonds are now priced to yield 7% to maturity, what are the prices of: (i) the zero-coupon bond; (ii) the 9.2% coupon bond; (iii) the 11.2% coupon bond? (Round your answers to 2 decimal places.) Zero Coupon $ 508.35 9.2% Coupon 11.2% Coupon $ 1,154.52 $ 1,294.99 Current prices b. If you expect their yields to maturity to be 7% at the beginning of next year, what will be the price of each bond? (Round your answers to 2 decimal places.) Zero Coupon $ 543.93 9.2% Coupon 11.2% Coupon $ 1,143.34 $ 1,273.64 Price 1 year from now c. What is your before-tax holding-period return on each bond? (Round your answers to 2 decimal places.) Zero Coupon 7.00% 9.2% Coupon 7.00% 11.2% Coupon 7.00% Pre-tax rate of return

Answer 1

A B C Zero $508.35 D E 9.2% coupon 11.2% coupon $ 1,154.52 $ 1,294.99 a) Current price 4 Zero $543.93 9.2% coupon 11.2% coupon $ 1,143.34 $ 1,273.64 5 b) Price 1 year from now 6 | Zero 7.00% 9.2% coupon 11.2% coupon 7.00% 7.00% c) Pre-tax rate of return 8 9 10 | Zero 5.68% 9.2% coupon 11.2% coupon 4.79% 4.72% 11 d) After-tax rate of return 12 13 14 e) Price 1 year from now 15 Pre-tax rate of return 16 After-tax rate of return Zero $591.90 16.44% 13.35% 9.2% coupon 11.2% coupon $ 1,217.65 $ 1,353.69 13.44% 13.18% 10.02% 9.73%

B Zero =PV(7%,10,0,1000)*-1 9.2% coupon =PV(7%,10,92,1000)*-1 PV(79,10,92,10003%. coupon PU(79,10,2,3000)-1 11.2% coupon =PV(7%,10,112,1000)*-1 2 a) Current price m7 Zero =PV(7%,9,0,1000)*-1 =D1 =PV(7%,9,92,1000)*-1 =E1 =PV(7%,9,112,1000)*-1 5 b) Price 1 year from now 6 =D4 =(D5-D2+92)/D2 =E4 =(E5-E2+112)/E2 =D7 = (D5-D2)*(1-18.8%)/D2+92*(1-30%)/D2 =E7 =(E5-E2)*(1-18.8%)/E2+112*(1-30%)/E2 Zero 8 c) Pre-tax rate of return =(C5-C2)/C2 9 10 Zero 11 d) After-tax rate of return =(C5-C2)*(1-18.8%)/2 12 13 Zero 14 e) =B5 =PV(6%,9,0,1000)*-1 15 =B8 =(C14-C2/C2 16 =B11 =(C14-C2)*(1-18.8%)/C2 =D10 =PV(6%,9,92,1000)*-1 =(D14-D2+92)/D2 =(D14-D2)*(1-18.8%)/D2+92*(1-30%)/D2 =E10 =PV(6%,9,112,1000)*-1 =(E14-E2+112)/E2 =(E14-E2)*(1-18.8%)/E2+112*(1-30%)/E2

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