Compute the present values of the following bond using three (3) different discount rates. Face Value...

Compute the present values of the following bond using three (3) different discount rates.

Face Value = $1,000
Coupon rate = 14%

Maturity is 4 years
Coupons are paid once in a year.

Compute the PV of the bond using:
Discount rate of 16%
Discount rate of 14%
Discount rate of 12%
Discuss the relationship between PV of a bond and different discount rates.

Solutions

Expert Solution

Face Value = $1000

Coupon Rate = 14% (Paid Annually)

Maturity = 4 Years

PV = ??

PV of Bond = Present Value of Coupons + Present Value of Face Value

PV of Bond =

It can be done with the help of excel easily. Excel formula and output screenshots are attached as a part of this calculation.

As we can see, that as discount rate decreases, price of bond increases. Thus, they have negative relationship. It means if one rises other falls and vice - versa. Also, this relationship is not linear rather it is convex. It means if interest rate rise, Bond prices fall but less than what it would have if relationship would have been linear. Also, if interest rate falls, price of bond rises more than what it would have been in linear relationship. This way they have inverse and convex relationship.

jeff jeffy answered 2 years ago

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