You owe a mobster in Chicago money in 5 years. You want to earn a little...

You owe a mobster in Chicago money in 5 years. You want to earn a little bit on money you set aside to pay this liability. However, you do not know if interest rates will rise or fall. You have two bonds to choose from with semi-annual coupon payments:

	Bond A	Bond B
Time to maturity (years)	5	6
Annual yield to maturity	4.00%	4.00%
Annual coupon payment	40.00	65.94
Current price	-1000	-1000
Face value	1000	826.02

So we start with two bonds of equal price ($1000) and annual yield to maturity (4.00%).

1. Assume annual yield to maturity drops from 4.00% to 3.00%. What is the total ending wealth of Bond B? The answer is NOT 1,048.94

2. Assume annual yield to maturity drops from 4.00% to 3.00%. What is the total ending wealth of Bond A? The answer is NOT 1,044.52

Expert Solution

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jeff jeffy answered 1 year ago

You owe a mobster in Chicago money in 5 years. You want to earn a little...

You owe a mobster in Chicago money in 5 years. You want to earn a little bit on money you set aside to pay this liability. However, you do not know if interest rates will rise or fall. You have two bonds to choose from with semi-annual coupon payments: Bond A Bond B Time to maturity (years) 5 6 Annual yield to maturity 4.00% 4.00% Annual coupon payment 40.00 65.94 Current price -1000 -1000 Face value 1000 826.02 So we...

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You owe a mobster in Chicago money in 5 years. You want to earn a little...

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