Bond Valuation: Clifford Clark is a recent retiree who isinterested in investing
ID: 2661454 • Letter: B
Question
Bond Valuation: Clifford Clark is a recent retiree who isinterested in investing some of hin savings in cororate bonds. Hisfinancial planner has suggested the following bonds:
- Bond A has a 7% annual coupon, matures is 12 years, and has a$1000 face value.
-Bond B has a 9% annul coupon, matures in 12 years, and has a$1000 face value.
-Bond C has an 11% annual coupon, mature is 12 years, and has a$1000 face value.
Each bond has a yield to maturity of 9%.
a. Before calculating the prices of the bond, indicate whethereach bond is trading at a premium, at a discount, or at par.
Explanation / Answer
To know whether a bond is trading at a discount, a premium, or atpar, you must compare the coupon payments to the yield tomaturity. Bond A has a coupon payment of 7% and a yield of 9%. Thisbond is therefore paying coupons at lower than the interestrate. People therefore do not want this bond as much, and itwill trade at a discount. Bond B has a coupon payment of 9% and a yield of 9%. Thecoupon payments are exactly equal to the interest rate. Thebond will therefore trade at par value. Bond C has a coupon payment of 11% and a yield of 9%. Thebond is paying coupons at higher than the rate of interest. There will be a lot of demand for this bond and it will trade at apremium.