Question

Twitchy – a kind of junk bond – carries a 10% coupon rate, has a $1,000 face value and matures in 5 years. What is the change in the implicit required return (that is, YTM) of Twitchy, if the current market price of Twitchy, which is $950, falls to $850?

a. -4.10%

b. +2.96%

c. +11.34%

d. -14.30%

Answer 1

Face Value of bond = $1000

Semi-annual coupon payment = $1000*10%*1/2 = $50

No of coupon payments(n) = No of years to maturity*2 = 5 years*2 = 10

- Calculating the Semi-annual YTM when price is $950 using Excel "rate" function:-

Semi-annual YTM = 5.6687%*2

Annual YTM = 11.34%

- Calculating the Semi-annual YTM when price is $850 using Excel "rate" function:-

Semi-annual YTM = 7.1505%*2

Annual YTM = 14.30%

So, Change in YTM when price from $950 falls to $850 = 14.30% - 11.34%

= +2.96%

It increased by 2.96%

option B

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