In: Finance
You purchase today a callable annual coupon rate bond under the following conditions: Bond characteristics:
Coupon rate: 7.5%
Maturity of bond: 20 years
Call Premium: 8% Time to call period: 4 years
Current YTM: 8.5%
Expected hold assumptions:
Expected hold time: 4 years
Reinvestment rate (average money market return): 2.1%
Expected YTM (non-callable bonds) at sale: 4.0%
Based upon the above items, find the Horizon Yield (HY) for this bond position.
Bond price before change in YTM Interest compounded annually
Par value of bond is 1000
Coupon rate on bond is 0.075
Initial YTM on bond is 0.085
Years till maturity are 20 Price = coupon rate x par value x PVIFA(ytm%, n) + par value x PVIF(ytm%, n) PVIFA(0.085, 20) =9.463 PVIF(0.085, 20) = 0.1956
Price = 0.075 x 1000 x 9.4633 + 1000 x 0.1956
Price = 905.347
Horizon rate of return Bond price 905.347
Bond price after change in YTM = 1080 (assume at premium given)
Change in YTM = 4.5%
Bond horizon = 4
horizon rate = (1080/905.347)1/4 * (1+0.045) -
1
horizon rate = (1.1929)^(0.25) * (1.045) - 1
horizon rate = 1.0450835 * 1.045 - 1
horizon rate = 1.0921566261655 - 1
horizon rate = 9.21%
Annual horizon rate = 9.21%
The 9.21% is the nominal yield to horizon
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comments
Assumption ... Price after change in ytm is 1080 as all data
regarding it is not given