Question

Calculate the price of an 8% coupon, $1000 face value, 2-year bond that pays semi-annual coupons if the appropriate annual discount rate is 12%. Suppose the annual discount rate on this bond rises to 16% after six months and you sell the bond at the end of the first year. What return did you actually make for the one year that you held this bond? Please show all work and do not use excel or a finance calculator.

Answer 1

  

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Value of Bond =

Where r is the discounting rate of a compounding period i.e. 12% / 2 = 0.06

And n is the no of Compounding periods 2 years * 2 = 4

Coupon 8% / 2 * 1000 = 40

=

= 930.70

Value after a year

Value of Bond =

Where r is the discounting rate of a compounding period i.e. 16% / 2 = 0.08

And n is the no of Compounding periods 1 years * 2 = 2

Coupon 8% / 2 * 1000 = 40

=

= 928.67

Holding period Return = Coupon + Capital Gain / Purchase Price

= 80 + (928.67 - 930.70) / 930.70

= 8.38%

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