Question

Lance Whittingham IV specializes in buying deep discount bonds. These represent bonds that are trading at well below par value. He has his eye on a bond issued by the Leisure Time Corporation. The $1,000 par value bond pays 8 percent annual interest and has 17 years remaining to maturity. The current yield to maturity on similar bonds is 10 percent. Use Appendix B and Appendix D for an approximate answer but calculate your final answer using the formula and financial calculator methods.

a. What is the current price of the bonds? (Do not round intermediate calculations. Round your final answer to 2 decimal places. Assume interest payments are annual.)

b. By what percent will the price of the bonds increase between now and maturity? (Do not round intermediate calculations. Input your answer as a percent rounded to 2 decimal places.)

Answer 1

(a)-Current price of the Bond

• The Price of the Bond is the Present Value of the Coupon Payments plus the Present Value of the Face Value/Par Value.
• The Price of the Bond is normally calculated either by using EXCEL Functions or by using Financial Calculator.
• Here, the calculation of the Bond Price using financial calculator is as follows

Variables	Financial Calculator Keys	Figures
Par Value/Face Value of the Bond [$1,000]	FV	1,000
Coupon Amount [$1,000 x 8.00%]	PMT	80
Market Interest Rate or Yield to maturity on the Bond [10.00%]	1/Y	10
Maturity Period/Time to Maturity [17 Years]	N	17
Bond Price	PV	?

Here, we need to set the above key variables into the financial calculator to find out the Price of the Bond. After entering the above keys in the financial calculator, we get the Price of the Bond = $839.57.

“Hence, the current price of the Bond will be $839.57”

(b)-Percentage increase in the price between now and maturity

Percentage increase in price = [Par Value – Price of the Bond) / Price of the Bond] x 100

= [($1,000 – $839.57) / $839.57] x 100

= [$160.43 / $839.57] x 100

= 19.11%

“Hence, the Price increased by 19.11%”