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Answer for 8 and 9 On October 15, 2016, Koala, Inc. issued a 10 year bond...

Answer for 8 and 9

On October 15, 2016, Koala, Inc. issued a 10 year bond (with a typical $1000 face value) that had an annual coupon value of $60. [We are assuming that the 2020 coupon has just been redeemed.]

  • Initially, the bond was sold for the premium price of $1,025.
  • On October 15, 2020, this bond was selling for only $975.
  • The market rate of interest for a riskless corporate bond, of this maturity, was 4.5% on October 15, 2016, which reflects market expectations about future rates of inflation.
  • The market rate of interest for a riskless corporate bond, of this maturity, was 4.0% on October 15, 2020, which reflects market expectations about future rates of inflation.

1. What was the nominal yield on this bond on October 15, 2016? 6% [To 1 decimal place.]

2. What was the current yield on this bond on October 15, 2016?5.36% [To 2 decimal places.]

3. What was the yield to maturity for this bond on October 15, 2016? 5.679% [To 3 decimal places.]

4. What was the risk premium for this bond on October 15, 2016? 1.179% [To 3 decimal places.]

5. What was the nominal yield on this bond on October 15, 2020?6% [To 1 decimal place.]

6. What was the current yield on this bond on October 15, 2020?6.15% [To 2 decimal place.]

7. What was the yield to maturity for this bond on October 15, 2020?6.346% [To 3 decimal places.]

8. What was the risk premium for this bond on October 15, 2020? [To 3 decimal places.]

9. It is now October 15, 2020 and suddenly the Federal Reserve announces a massive program to reduce inflation. Instantly, the market rate of interest for a riskless corporate bond that would apply to this bond, falls from 4.0% to 2.5%. If there is no change in the risk premium expected for this Koala, Inc. bond, what will be this bond’s yield to maturity? [To 3 decimal places.]

Solutions

Expert Solution

Q#8:

Given that the bond was issued on October 15, 2016. So, on October 15, 2020, remainining term to maturity is 4 years.

YTM is calculated using RATE function of Excel

Yield to maturity on 15, October 2020= 6.517%

Given that market interest rate on riskless bond of same maturity, on 15 Oct 2020 is 4%,

Risk premium of Koala Inc bond = 6.517%-4%= 2.517%

Q#9:

After reduction in risk free rate to 2.5%, and with no change in risk premium,

Yield to Maturity of Koal Inc. bond= 2.517% + 2.5% = 5.017%

Calculations as below:

jeff jeffy answered 2 years ago
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