Question

XYZ is looking at investing in the bond market.

a) Complete the table below

Α. Issuer Time to Rating Coupon (%) Price per YTM (%) maturity $100 of Face (years) Value Bonds Inc. 0.5 4% $99 ? (6.06%) Are Ltd. BBB $100 ? (7%) Forever WII BB 7.4% ? ($98.91) 8% All coupons and YTMs are quoted (and paid) per annum (p.a.) with semi-annually compounding. For the missing YTM questions, please provide answers with semi-annual compounding. 1.5 7%

b) the company suspects some mispricing going on in the Technology sector bonds, review the following three companies to identify one case where the price seems incorrect.

Answer 1

a) Since the bonds are compounded semi annuallly, we compute based on respective half year periods. Hence N becomes 2*N and i/y becomes i/y/2 in the calculation.

For bonds inc, we can calculate YTM by using a business analyst calculator where in we enter

N=1, PMT=2, PV= -99 FV=100 and compute i/y, we get 3.03%. So YTM = 6.06% (3.03*2) to make in annual compounding.

Similarly for Are Ltd, N=3, PMT=3.5, PV= -100 and FV=100, we get I/y = 3.5 So YTM = 7% (3.5*2)

Forever WIl , N=4, PMT=3.7, I/Y = 4, FV=100, We get PV= 98.91 which is the price of the bond.

b) Macrosift is wrongly priced. Intuitive reason is that the coupon rate is greater than the YTM, so the bond should trade at a premium. So the bond price should be above $1000, If we do the same calculation on the calculator by taking FV= 1000,N=3, PMT=5 and I/Y = 4.9, we get PV of the bond as $1002.72. Hence, the given price is incorrect.