Question

1a) You just learned from your sister that you can buy a $1,000 par value bond for $800. The coupon rate is ten percent (paid annually), and there are ten years left until the bond matures. You should purchase the bond if your require twelve percent return on bonds with this similar risk level. True/False?

1b) A corporate bond with ten years to maturity has an annual coupon rate of six percent. The bond today is selling for $1,000. With this in mind, which of the following statements is CORRECT?

-  The bond’s expected capital gains yield (CGY) is zero.

- The bond’s current yield is above 6%.

- The bond’s yield to maturity (YTM) is above 6%.

- If the bond’s yield to maturity declines, the bond will sell at a discount.

1c) Three 10-year, $1,000 par value, noncallable bonds have the same level of risk. Bond EIGHT has an eight percent annual coupon, Bond TEN has a ten percent annual coupon, and Bond TWELVEhas a twelve percent annual coupon. Bond TEN sells for $1,000. Assuming that interest rates remain constant for the next ten years, which of the following statements is CORRECT?

-  Bond EIGHT sells at a discount (its price is less than par), and its price is expected to increase over the next year.

- Bond EIGHT’s current yield will increase each year.

- Bond TWELVE sells at a premium (its price is greater than par), and its price is expected to increase over the next year.

- Since the bonds have the same YTM, they should all have the same price, and since interest rates are not expected to change, their prices should all remain at their current levels until maturity.

Answer 1

cpn1

cpn = 10%* 1000 = 100

r = 0.12

n = 10

FV = 1000

121012 5012 1000 Price_* race 0.12 (1 +0.12)10 (1+0.12)10

Price 833.333333 * 0.678026763 321.9732365907

Price - $886.9955388647

Yes, you should purchase the bond for $800 as the value of the bond is $886.99

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