Question

You purchase AA rated 25-year bond with a $1000 face value, paying coupons at 2.00%, callable after 8 year for $1150 and putable after 8 years for 800.  

• Assuming the market rates are at 1.50% when you buy the bonds what price would you pay?

• 8 Years later the market rates shift to 0.75%, what would the bond be sold at?

Answer 1

Time to maturity (N) = 25 years

Face value (FV) = $1,000

Coupon amount at 2% (PMT) = $1,000 x 2% = $20

Market interest rate (I/Y) = 1.50%

Calculating current price of the bond (PV), using financial calculator :

Current price of the bond (PV) = $1,103.60

Hence, I would pay $1,103.60 for the bond.

8 years later :

Face value (FV) = $1,000

Coupon amount at 2% (PMT) = $1,000 x 2% = $20

Remaining Time to maturity (N) = 17 years

New Market interest rate (I/Y) = 0.75%

Price of the bond (PV) 8 years later, using financial calculator :

Price of the bond (PV) 8 years later = $1,198.81

The bond would be sold at $1,198.81, if it is not called at $1,150.