A 20-year, 8% semiannual coupon bond with a par value of $1,000 may be called in 5 years at a call price of $1,040. The bond sells for $1,100. (Assume that the bond has just been issued.)

a. What is the bond s yield to maturity?

b. What is the bond s current yield?

c. What is the bond s capital gain or loss yield?

d. What is the bond s yield to call?

NOW ANSWER THE FOLLOWING NEW QUESTIONS:

e. How would the price of the bond be affected by changing the going market interest rate? (Hint: Conduct a sensitivity analysis of price to changes in the going market interest rate for the bond. Assume that the bond will be called if and only if the going rate of interest falls below the coupon rate. That is an oversimplification, but assume it anyway for purposes of this problem.)

f. Now assume the date is 10/25/2010. Assume further that a 12%, 10-year bond was issued on 7/1/2010, pays interest semiannually (January 1 and July 1), and sells for $1,100. Use your spreadsheet to find the bond s yield.

7/22/2012 20 2 0.08 1000 1100 1040 5 0.08 0 0 0 0 0 0 0.02 0 0 0 0.04 0 0 0 0.06 0 0 0 0.08 0 0 0 0.1 0 0 0 0.12 0 0 0 0.14000000000000001 0 0 0 0.16 0 0 0 7/22/2012 a. What is the bond’s yield to maturity? b. What is the bond’s current yield? c. What is the bond’s capital gain or loss yield? / Cap. Gain/loss yield = – d. What is the bond’s yield to call? Years to maturity: Coupon rate: Par value: Periods per year: Current price Periodic payment: Periods to maturity: Call price: Years till callable: Basic Input Data: Current yield = Note that this is an economic loss , not a loss for tax purposes. Here we can again use the Rate function, but with data related to the call. Periods till callable: NOW ANSWER THE FOLLOWING NEW QUESTIONS: Value of bond if it’s not called: Value of bond if it’s called: Value of Bond If: Not called Called statement to determine which value is appropriate: Actual value, considering call likehood: Settlement (today) Maturity Coupon rate Frequency (for semiannual) Basis (360 or 365 day year) Current price (% of par) Yield to Maturity: Basic info: Redemption (% of par value) Nominal market rate, r: Rate, r We can use the two valuation formulas to find values under different r’s, in a 2-output data table, and then use an IF The YTC is lower than the YTM because if the bond is called, the buyer will lose the difference between the call price and the current price in just 4 years, and that loss will offset much of the interest imcome. Note too that the bond is likely to be called and replaced, hence that the YTC will probably be earned. Refer to this chapter’s Tool Kit for information about how to use Excel’s bond valuation functions. The model finds the price of a bond, but the procedures for finding the yield are similar. Begin by setting up the input data as shown below: A 20-year, 8% semiannual coupon bond with a par value of $1,000 may be called in 5 years at a call price of $1,040. The…

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