Bond valuation Bond X is noncallable and has 20 years to maturity, a 9% annual c
ID: 2775289 • Letter: B
Question
Bond valuation
Bond X is noncallable and has 20 years to maturity, a 9% annual coupon, and a $1,000 par value. Your required return on Bond X is 8%; and if you buy it, you plan to hold it for 5 years. You (and the market) have expectations that in 5, years the yield to maturity on a 15-year bond with similar risk will be 11%. How much should you be willing to pay for Bond X today? (Hint: You will need to know how much the bond will be worth at the end of 5 years.) Round your answer to the nearest cent.
Explanation / Answer
Step 1 :
Bond price at the end of 5 year = pv(rate, nper,pmt,fv)
Nper (indicates the period) = 15
PV (indicates the price) = ?
PMT (indicate the annual payment) = 1000*7% = 70
FV (indicates the face value) = 1000
Rate (indicates YTM) = 12%
Bond price at the end of 5 year = pv(12%,15,70,1000)
Bond price at the end of 5 year = $ 659.46
Step 2 :
Willing to pay for Bond X today = pv(rate, nper,pmt,fv)
Nper (indicates the period) = 5
PV (indicates the price) = ?
PMT (indicate the annual payment) = 1000*7% = 70
FV (indicates the value at the end of 5 year) = 659.46
Rate (indicates YTM) = 11%
Willing to pay for Bond X today = pv(11%,5,70,659.46)
Willing to pay for Bond X today = $ 650.07