Question

Suppose that a 15-year $1000-face value government (risk-free) coupon bond with 8% coupon payments (paid annually) is currently selling at par. ABC Company’s bonds are rated AA, and the credit spread on these bonds is 3%. At what price would you be willing to purchase a 15-year ABC Company bond with a $1000-face value if it offers 8% coupon payments (paid annually)? Show your calculations and explain your result.

Answer 1

YTM of Govt Bond = 8%

YTM of AA rated bond = 0.08 + 0.03 = 11.00%

Calculating Price of AA Rated Bond,

Using TVM Calculation,

PV = [FV = 1,000, PMT = 80, N = 15, I = 0.11]

PV = $784.27

Bond Value = $784.27