Question

You own a 2-year bond that has a face value of $1,000 with a coupon rate of 3.5%. If you sell it for

$973, what is the current interest rate? Show your work and keep your answer to 2 decimal places if

necessary

Answer 1

Face value, FV = $ 1,000

Coupon rate, C = 3.5% of $ 1,000 = $ 35

Price, P = $ 973

No of year, n = 2 years

The price of the bond can be determined as follows

We can determine the interest rate using the trial and error method. Let us assume rate = 5%

The actual price is $ 973 which is greater than the $ 972.1088 thus decrease rate.

Let us assume rate = 4%

At a rate of 4% price is $ 990.5695 therefore we can say the required rate lies in between 4 to 5%

We can determine the rate using linear interpolation techniques as follows

Current Interest rate = 4.95%

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