Question

Select the correct option... The present value of a bond that matures in 5 years can be best described as:

a) The face value of the bond discounted 5 years back to the current period

b) All coupon payments that will be received over the next 5 years discounted back to the current period

c) The face value of the bond plus all future cash flows from coupons being received over the coming 5 years discounted back to the current period

d) The face value of the bond 5 years from the current period

e) The yield to maturity multiplied by the face value of the bond

Justify your answer.

Answer 1

· Correct Answer = Option ‘C’

The face value of the bond plus all future cash flows from coupons being received over the coming 5 years discounted back to the current period

· Concept

Bonds issue price is calculated by ADDING the:

Discounted face value of bonds payable at 'applicable' market rate of interest [Face value x PV Factor], and

Discounted Interest payments amount (during the lifetime) at 'applicable' market rate of interest [Interest payment x PV Annuity factor]

Example Data

	Annual Rate	Applicable rate, because of Semi Annual payments
Market Rate	10.0%	5.0%
Coupon Rate	8.0%	4.0%

Face Value	$                          900000.00
Term (in years)	6
Total no. of interest payments	12

Present Value calculation

	Amount	PV factor	Present Values
PV of Face Value of	$                       900,000.00	0.55684	$                     501,156.00
PV of Interest payments of	$                          36,000.00	8.86325	$                     319,077.00
Issue Price of Bonds or Present value of Bonds	$                     820,233.00