Question

The 16​-year, ​$1,000 par value bonds of Waco Industries pay 11 percent interest annually. The market price of the bond is ​$945​, and the​ market's required yield to maturity on a​ comparable-risk bond is 10 percent.

a.  Compute the​ bond's yield to maturity.

b.  Determine the value of the bond to you given the​ market's required yield to maturity on a​ comparable-risk bond.

c.  Should you purchase the​ bond?

Answer 1

a.Information provided:

Par value= future value= $1,000

Time= 16 years

Coupon rate= 11%

Coupon payment= 0.11*1,000= $110

Current price= present value= $945

The yield to maturity is calculated by entering the below in a financial calculator:

FV= 1,000

N= 16

PMT= 110

PV= -945

Press the CPT key and I/Y to compute the yield to maturity.

The value obtained is 11.78.

Therefore, the yield to maturity is 11.78%.

b.Information provided:

Par value = Future value= $1,000

Time= 16 years

Coupon rate= 11%

Coupon payment= 0.11*1,000= $110

Yield to maturity = 10%

The value of the bond is computed by calculating the present value.

Enter the below in a financial calculator to compute the present value:

FV= 1,000

N= 16

I/Y= 10

PMT= 110

Press the CPT key and PV to calculate the present value.

The value obtained is 1,078.34.

Therefore, the value of the bond is $1,078.34.

c.Since the current market price of bond is higher than the value of bond with comparable-risk bond. Therefore, I should not purchase this bond.

In case of any query, kindly comment on the solution.