Question

Refer to Table 10-1, which is based on bonds paying 10 percent interest for 20 years. Assume interest rates in the market (yield to maturity) decline from 12 percent to 6 percent. a. What is the bond price at 12 percent? Bond price b. What is the bond price at 6 percent? Bond price c. What would be your percentage return on investment if you bought when rates were 12 percent and sold when rates were 6 percent? (Do not round intermediate calculations. Input your answer as a percent rounded to 2 decimal places.) Return on investment %

Answer 1

Face VAlue of Bond = $1000

Annual Coupon Payment on Bond = $1000*10%

= $100

No of years to maturity(n) = 20 years

a). Calculating the Price of Bond when Yield is 12%:-

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+ ... Coupon Payment (1+YTM)" Price Coupon Payment Coupon Payment + (1+YTM) (1 + YTM2 FaceValue (1+YTM)

$Price = \frac{100}{(1+0.12)^{1}}+\frac{100}{(1+0.12)^{2}}+.....+\frac{100}{(1+0.12)^{20}}+\frac{1000}{(1+0.12)^{20}}$

Price = $746.94 + $103.67

Price = $850.61

b). Calculating the Price of Bond when Yield is 6%:-

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+ ... Coupon Payment (1+YTM)" Price Coupon Payment Coupon Payment + (1+YTM) (1 + YTM2 FaceValue (1+YTM)

Price 100 (1 + 0.06) 100 (1 + 0.06)2 + + 100 (1 + 0.06.20 1000 (1 + 0.06 20

Price = $1146.99 + $311.80

Price = $1458.79

c). Calculating rate of Return if Bond is bought at 12% and sold at 6%

Rate of Return = (Selling Price - Buy Price)/Buy Price

= ($1458.79 - $850.61)/$850.61

= 71.50%

Note- As question has not mentioned the no of years Investment is been hold, we are not taking the effct of Coupon Payment in rate of Return.