Bond purchase decision
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You are considering investing in a security that matures in 10 years with a par value of $1,000. During the first five years, the security has an 8 percent coupon with quarterly payments (i.e., you receive $20 a quarter for the first 20 quarters). During the remaining five years the security has a 10 percent coupon with quarterly payments (i.e., you receive $25 a quarter for the second 20 quarters). After 10 years (40 quarters) you receive the par value.
Another 10-year bond has an 8 percent semiannual coupon (i.e., the coupon payment is $40 every six months). This bond is selling at its par value, $1,000. This bond has the same risk as the security you are thinking of purchasing. Given this information, what should be the price of the security you are considering purchasing?
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Solution Summary
Determine NPVs of securities.
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Since the securities are of equal risk, they must have the same effective rate. Since the comparable 10-year bond is selling at par, its nominal yield is 8 percent, the same as its coupon ...
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