Question

3. One year treasuries yield 5% and two year Treasuries yield 5.50%. You have a two year time horizon. You are considering a one year roll of Treasuries. What would you have to get in the second year to beat just holding the two year Treasury? (Carry your answer out three decimal places.)
4. What are the components of a bond?
5. Assume Capital Inc has an outstanding 15 year bond with a 10% coupon (annual pay) with a par value of $1000. The market yield for this bond is 15%. What is the price/present value of the bond? If the bond is callable in ten years at 102 what would the yield to the call be given the price you calculated above.

Answer 1

3. FORWARD RATE = ((1+S1)^N1 / (1+S2)^N2)^1/(N1-N2)

= ((1+0.055)² / (1+0.05)¹)^(1/2-1)

= (1.113025 / 1.1025)

= 0.95%

4.

COMPONENTS OF A BOND

1.Coupon

The coupon rate of a bond is the amount of interest that is paid to investors. If you buy a bond with a 5 percent coupon rate, you'll earn $5 for every $100 you invest. Since most bonds are priced in units of $1,000, for every 5 percent bond you purchase, you'll typically earn $50 per year in interest.

2.Maturity Date and Value

The maturity date is the date that the bond pays off, or comes due. The value you receive at a bond's maturity date has nothing to do with what you paid for the bond. In most cases, maturity value, also known as par value, is $1,000. No matter whether you paid $900 or $1,200 for a bond with a par value of $1,000, you'll receive $1,000 at maturity.

3.Price

If you buy a bond when it is first offered to the public, in a process known as an initial public offering, you agree to buy the bond at a stated price. After that, bonds trade freely in the marketplace. At any given time, a bond may trade at a price higher or lower than the IPO price. If you sell your bond before its maturity date, you might lose money.

4.Yield to Maturity

Yield to maturity is the total return you'll receive from the time you purchase your bond until it redeems at maturity. Yield to maturity is a calculation incorporating both a bond's coupon rate and the price differential between the maturity value and your purchase price. For example, if you buy a 6 percent bond at $1,000, your yield to maturity will be 6 percent, since the only return you'll earn will be your 6 percent coupon rate. However, if you only paid $900 for the same bond, you'll receive your 6 percent annual interest payments plus an additional $100 at maturity, resulting in a higher yield to maturity.

5.

years to maturity = 15

coupon = 1000 x 10% = 100

par value (fv) = 1000

YTM = 15%

PV = C x 1-(1+r)^-n/r + FV / (1+r)ⁿ

= 100 x 1-(1+0.15)^-15 / 0.15 + 1000 / (1+0.15)¹⁵

= 707.63

YTC = (COUPON + ((CALL PRICE - MARKET VALUE ) /  (TIME UNTILL CALL)) / (CALL PRICE - MARKET VALUE / 2)

YTC = 100 + ((1020 - 707.63)/10) / ((1020 - 707.63) / 2 )

YTC = 100 + 31.24 / 156.18

YTC = 131.24 / 156.18

YTC = 84.03%

NOTE - THERE IS A ERROR IN QUESTION YTC PRICE IS TAKEN AS 1020 NOT 102 (102 IS NOT POSSIBLE CALL PRICE IS ABOVE PAR VALUE)