Question

A bond has a face value of $1,000. The coupon rate is 7.2% (expressed as an annual percentage rate with semi-annual compounding). There are 2 coupon payments per year and the bond will mature in 4 years. The price is $985. A coupon payment has just been made and the next coupon payment for this bond is in 6 months. An investor buys the bond today and sells the bond in 2 years’ time, just after a coupon payment. When the bond is sold the yield to maturity on the bond is 2.2% (expressed as an annual percentage rate with semi-annual compounding). What is the investor’s total return from buying the bond and selling the bond in 2 years, expressed as an effective annual rate? You will need to perform an internal rate of return computation to answer this question.

A: between 11.14% and 11.64%

B: between 11.64% and 12.14%

C: between 12.14% and 12.64%

D: between 12.64% and 13.14%

E: between 13.14% and 13.64%

Answer 1

Option D: between 12.64% and 13.14%

=(1+RATE(2*2,7.2%*1000/2,-985,PV(2.2%/2,2*2,-7.2%*1000/2,-1000))*2/2)^2-1
=12.894%