Problem 7-5 Bond valuation An investor has two bonds in his portfolio that both

Question

Problem 7-5
Bond valuation

An investor has two bonds in his portfolio that both have a face value of $1,000 and pay a 11% annual coupon. Bond L matures in 15 years, while Bond S matures in 1 year.

Assume that only one more interest payment is to be made on Bond S at its maturity and that 15 more payments are to be made on Bond L.

What will the value of the Bond L be if the going interest rate is 4%? Round your answer to the nearest cent.
$   

What will the value of the Bond S be if the going interest rate is 4%? Round your answer to the nearest cent.
$   

What will the value of the Bond L be if the going interest rate is 8%? Round your answer to the nearest cent.
$   

What will the value of the Bond S be if the going interest rate is 8%? Round your answer to the nearest cent.
$   

What will the value of the Bond L be if the going interest rate is 12%? Round your answer to the nearest cent.
$   

What will the value of the Bond S be if the going interest rate is 12%? Round your answer to the nearest cent.
$    

Problem 7-7
Interest rate sensitivity

An investor purchased the following 5 bonds. Each bond had a par value of $1,000 and an 10% yield to maturity on the purchase day. Immediately after the investor purchased them, interest rates fell and each then had a new YTM of 5%. What is the percentage change in price for each bond after the decline in interest rates? Fill in the following table. Round your answers to the nearest cent or to two decimal places.

Problem 7-8
Yield to call

Seven years ago the Singleton Company issued 27-year bonds with a 11% annual coupon rate at their $1,000 par value. The bonds had a 5% call premium, with 5 years of call protection. Today Singleton called the bonds.

Compute the realized rate of return for an investor who purchased the bonds when they were issued and held them until they were called. Round your answer to two decimal places.

%

Price @ 10% Price @ 5% Percentage Change 10-year, 10% annual coupon $   $      % 10-year zero $   $      % 5-year zero $   $      % 30-year zero $   $      % $100 perpetuity $   $      %

Explanation / Answer

Problem 7-8 The rate of return is approximately 11.5%, found with a calculator using the following inputs:

N = 7; PV = -1000; PMT = 140; FV = 1050; I/YR = ? Solve for I/YR = 11.5%.

Despite a 11.5% return on the bonds, investors are not likely to be happy that they were called. Because if the bonds have been called, this indicates that interest rates have fallen sufficiently that the YTC is less than the YTM. (Since they were originally sold at par, the YTM at issuance = 11%.) Rates are sufficiently low to justify the call. Now investors must reinvest their funds in a much lower interest rate environment.

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