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    Solve: Bond Prices and Yields

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    A) Several years ago, Castles in the Sand, Inc., issued bonds at face value at a yield to maturity of 7%. Now, with 8 years left until the maturity of the bonds, the company has run into hard times and the yield to maturity on the bonds has increased to 15%. What has happened to the price of the bond?

    B) Suppose that investors believe that Castles can make good on the promised coupon payments, but that the company will go bankrupt when the bond matures and the principal comes due. The expectation is that investors will receive only 80% of face value at maturity. If they buy the bond today, what yield to maturity do they expect to receive?

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    Solution Preview

    A) Obviously, there is a drop in price.
    When the bond was issued, the Price = $1000 = FV
    And the annual return rate is the coupon rate = 7%
    Then yearly payment is ...