Question

1. Barasa Trading company has a 20-year, $1,000 par value bonds that pay 6 percent interest annually. The market price of the bonds is $1,200, and your required rate of return is 8 percent. Required: a. Compute the bond's expected rate of return. b. Determine the value of the bond to you given your required rate of return. c. Should you purchase the bond? d. Without doing any computations, if interest was paid semi-annually, would you buy the bond or not? Explain why or why not.

Answer 1

a). Coupon payment = coupon rate*par value = 6%*1,000 = 60

PMT = 60; FV = 1,000; PV = -1,200; N = 20, solve for RATE. Expected return = 4.47%

b). If YTM = 8%, then

PMT = 60; FV = 1,000; N = 20; rate = 8%, solve for PV. Price of the bond = 803.64

c). The bond should not be purchased as its return of 4.47% is less than one's required return of 8%.

d). Even if interest is paid semi-annually, the bond should not be bought as its YTM will still be close to 4.47%.