Bond P is a premium bond with a 12 percent coupon. Bond D is a 6 percent coupon
ID: 2652893 • Letter: B
Question
Bond P is a premium bond with a 12 percent coupon. Bond D is a 6 percent coupon bond currently selling at a discount. Both bonds make annual payments, have a YTM of 9 percent, and have five years to maturity. Assume these bonds have a face value of $1,000.
C. What is the current yield of bond P and bond D if interest rates suddenly shifted and the new YTM is 7%?
D. What are the prices of each bond in 4 years assuming the YTM remains 9%? How do the prices of each bond change over time? What direction do the prices move for discount and premium bonds?
Explanation / Answer
C.
Step 1:
Present Value of Bond P = pv(rate,nper,pmt,fv)
Present Value of Bond P = pv(7%,5,120,1000)
Present Value of Bond P = 1205.01
Present Value of Bond D = pv(rate,nper,pmt,fv)
Present Value of Bond D = pv(7%,5,60,1000)
Present Value of Bond D = 959.00
Step 2:
Current yield for Bond P = Annual Coupon/Present Value of Bond P
Current yield for Bond P = $120 / $1,205.01
Current yield for Bond P = 10%
Current yield for Bond D = Annual Coupon/Present Value of Bond D
Current yield for Bond D = $60 / $959
Current yield for Bond D = 6.00%
D.
Step 1:
Present Value of Bond P after 4 years = pv(rate,nper,pmt,fv)
Present Value of Bond P after 4 years = pv(9%,1,120,1000)
Present Value of Bond P after 4 years = 1027.52.
Present Value of Bond D after 4 years = pv(rate,nper,pmt,fv)
Present Value of Bond D after 4 years = pv(9%,5,60,1000)
Present Value of Bond D after 4 years = 972.48
Bond P is a premium and Bond D is at Discount.