Problem 7-5 Bond valuation An investor has two bonds in his portfolio that both
ID: 2649435 • Letter: P
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.
$
Explanation / Answer
The Value of the bond is the present value of the future cash flows. Thus, to find out the value of the bond in each of the below mentioned case we will find out the present value of the future cash flows. All the cash flows are discounted using market interest rates and not coupon rates.
a. Value of the bond L = 110 x PVAF(4%, 15years) + 1,000 x PVF(4%, 15years) = $1,778.29
b. Value of the bond S = 110 x PVF(4%, 1year) + 1,000 x PVF(4%, 1year) = $1,067.31
c. Value of the bond L = 110 x PVAF(8%, 15years) + 1,000 x PVF(8%, 15years) = $1,256.78
d. Value of the bond S = 110 x PVF(8%, 1year) + 1,000 x PVF(8%, 1year) = $1,027.78
e. Value of the bond L = 110 x PVAF(12%, 15years) + 1,000 x PVF(12%, 15years) = $931.89
f. Value of the bond S = 110 x PVF(12%, 1year) + 1,000 x PVF(12%, 1year) = $991.07