Question

1. What is the present value of the following at the market interest rate of 10%? a. $500 to be received after 2 years. b. Income stream of $100 to be received annually during the next three years. 2. What is the difference between a discount bond and a perpetuity? a. Arrange the following in ascending order based on the yields to maturity for interest rate) Simple loan of $100 to be repaid in full after one year by paying $120. Coupon bond with face value of $1000, coupon rate of 10% remaining maturity of 6 years purchased at $900. III. Coupon bond with face value of $1000, coupon rate of 10% remaining maturity of 6 years purchased at $1400. IV. Coupon bond with face value of $1000, coupon rate of 10% remaining maturity of 6 years purchased at $1000. b. Compare the bond prices and yields to maturity of ii, iii and iv. What are your observations? 4. Consider the following bond purchased at $800 in 2018. F=1000; C=100; N=5; P=800 a. What is the yield to maturity? (This is equal to the market interest rate prevailing in 2018) If the interest rate rises to 20% in 2019 what is the price of the bond? (Solve the following equation: 0.2=(100+(1000-P)/4)/(1000+P)/2) (The number of years remaining is 4) c. If the investor sold the bond in 2019 without holding till maturity did he/she make a profit or a loss? d. What is the rate of return in 2019?

Answer 1

1.

A.

PV= FV[1/(1+r)^n]

PV=500[1/(1+0.10)^2]

PV=500(0.8264)from present value table

PV=413.2

B.

PV=A [1-1/(1+r)^n]/r

PV=100[1-1/(1-0.10)^3]/0.10

PV=100(2.4869)..... From present value annuity table

PV=248.69