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Bond questions

1. Determine the current market prices of the following $1,000 bonds if the comparable rate is 10% and answer the following questions.

XY 5.25%, (interest paid annually) for 20 years.
AB 14 %, (interest paid annually) for 20 years.

a. Which bond has a current yield that exceeds the yield to maturity?

b. Which bond may you expect to be called? Why?

c. If CD, Inc. has a bond with a 5ΒΌ percent coupon and a maturity of 20 years but which was lower rated, what would be its price relative to the XY, Inc., bond? Explain.

2. You purchase a bond for $875. It pays $80 a year (that is, the semiannual coupon is 4%), and the bond matures after 10 years. What is the yield to maturity?

Solution Preview

Please see the attached file.

1. The current price of the bonds would be the present value of interest and principal discounted at the rate of 10%. Interest is an annuity and so we would use the PVIFA table to get the PV factor. For principal amount which is a lump sum we would use the PVIF table.

Bond XY - Annual interest is $52.5, par value is $1,000, maturity is 20 years and the discounting rate is 10%
Price of XY = 52.5 X PVIFA (10%, 20) + 1,000 X PVIF (10%, 20)
Price of XY = 52.5 X 8.5136 ...

Solution Summary

The solution explains some bond questions relating to current market price, current yield, YTM, when will it be called

$2.19