Question

Suppose you purchase a 30-year, SEK 10,000 par value, zero-coupon bond with a yield to maturity (YTM) of 4.2%. You hold the bond for 5 years before selling it.

(a) What is the price of the bond when you buy it?

Answer: The price of the bond is SEK . (round to full SEK)

(b) If the bond’s yield to maturity drops by 1% when you sell it, what is the internal rate of return of your investment?

Answer: If YTM drops by one percent when you sell the bond, IRR is_______ %. (round to one decimal)

(c) If the bond’s yield to maturity drops by 2% when you sell it, what is the internal rate of return of your investment?

Answer: If YTM drops by two percent when you sell the bond, IRR is_______ %. (round to one decimal)

(d) If the bond’s yield to maturity increases by 1% when you sell it, what is the internal rate of return of your investment?

Answer: If YTM increases by one percent when you sell the bond, IRR is________ %. (round to one decimal)

Hint: If IRR is negative, enter - (minus sign)

Answer 1

(a)

Rate

Yield to maturity =4.2%=

0.042

Nper

Number of years

30

Fv

Amount to be received on maturity =Face Value=

10,000

SEK

PV

Purchase Price of the Bond

2,911

SEK

(Using PV function of excelwith Rate=0.042, Nper=30, Fv=-10,000)

(b)

Yield to maturity drops by 1%

Rate

Yield to maturity=(4.2-1)=3.2%=

0.032

Nper

Number of years to maturity

25

(30-5)

Fv

Amount to be received on maturity =Face Value=

10,000

SEK

PV

Selling Price =Current market price

4,550

SEK

(Using PV function of excelwith Rate=0.032, Nper=25, Fv=-10,000)

IRR

Internal Rate of Return

9.3%

(Using RATE function of excel with Nper=5,Pv=-2911 Fv=4550)

Alternative method:

Internal Rate of Return=r

2911*((1+r)^5)=4550

(1+r)^5=4550/2911=

1.563288513

1+r=(1.563288513^(1/5))=

1.093472404

r=

0.093472404

Internal Rate of Return

9.3%

.(c)

Yield to maturity drops by 2%

Rate

Yield to maturity=(4.2-2)=2.2%=

0.022

Nper

Number of years to maturity

25

(30-5)

Fv

Amount to be received on maturity =Face Value=

10,000

SEK

PV

Selling Price =Current market price

5,804

SEK

(Using PV function of excelwith Rate=0.022, Nper=25, Fv=-10,000)

IRR

Internal Rate of Return

14.8%

(Using RATE function of excel with Nper=5,Pv=-2911 Fv=5804)

Alternative method:

Internal Rate of Return=r

2911*((1+r)^5)=5804

(1+r)^5=5804/2911=

1.99

1+r=(1.99^(1/5))=

1.14798729

r=

0.14798729

Internal Rate of Return

14.8%

(d)

Yield to maturity increases by 1%

Rate

Yield to maturity=(4.2+1)=5.2%=

0.052

Nper

Number of years to maturity

25

(30-5)

Fv

Amount to be received on maturity =Face Value=

10,000

SEK

PV

Selling Price =Current market price

2,816

SEK

(Using PV function of excelwith Rate=0.052, Nper=25, Fv=-10,000)

IRR

Internal Rate of Return

-0.66%

(Using RATE function of excel with Nper=5,Pv=-2911 Fv=2816)

Alternative method:

Internal Rate of Return=r

2911*((1+r)^5)=2816

(1+r)^5=2816/2911=

0.97

1+r=(0.97^(1/5))=

0.993374162

r=

-0.00662584

Internal Rate of Return

-0.66%