Baby doll Inc., issued bonds at face value at a yield to maturity of 8 percent....

Baby doll Inc., issued bonds at face value at a yield to maturity of 8 percent. Now, with 8 years left until the maturity of the bonds, the company has run into hard times and the yield to maturity on the bonds has increased to 14 percent. What has happened to the price of the bond?

b. Suppose that investors believe that Baby doll can make good on the promised coupon payments, but that the company will go bankrupt when the bond matures and the principal

comes due. The expectation is that investors will receive only 80 percent of face value at

maturity. If they buy the bond today, what yield to maturity do they expect to receive?

Solutions

Expert Solution

a. If the Yield to maturity(YTM) increases, price of the bond will reduce. Thus, the price of the bond on issue was $1,000 (face value). With the YTM increasing to 14%, price of the bond reduced to $721.67

b. If the expected face-value on maturity is only 80%, then the revised Yield to Maturity for an investor who bought the bond today $721.67 is 11.97%

Note:

The bonds were issued at face value at a yield to maturity of 8 percent. Since these were issued at face value, the coupon rate will equal the yield rate of 8%.

jeff jeffy answered 1 year ago

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