Question

1. Construct a timeline from your perspective: You borrow $1,200 from the bank at a 5%/year interest rate payable at the end of each year, and you promise to repay principal as follows: $500 in 2 years, and $700 at final maturity in 4 years.

2. Forever Corp is offering a unique perpetual bond that will pay $50 next year where the $50 will grow at 4%/year in the future. If the market rate is 8.25%/year, what is its current market price?

3. You won the lottery and have settled on the annuity option that pays $750,000/year for 20 years. If you believe you can reliably earn 3%/year, what is its value to you now?

4. WeWork’s 7.875% unsecured bond’s price declined from 87.5 to 61.3. A) What are those prices in dollars? B) Did the market yield on WeWork’s bond go up or down?

5. Draw a timeline for a bullet bond, face value of $1,000, with 3 years remaining to maturity that pays a coupon rate of 5.5%/year semi-annually.

6, What is the market price of the bond in Q #5 if the current market rate is 3%/year?

Answer 1

1.

2. Coupon1 = $50
Couponn = $50
Growth Rate = 4% p.a.
Market Rate = 8.25% p.a.

Current Market Price = Coupon1/(1 + Market Rate)1 + [Couponn(1 + Growth Rate)]/(Market Rate - Growth Rate)
= 50/(1+0.0825) + [50 * (1+0.04)]/(0.0825-0.04)
= 46.189376 + 1223.529412
Current Market Price = $1,269.718788 ~ $1,269.72

3.

Note : 3% is the growth rate p.a.

4. Assuming the face value of the bond to be $1,000, the current market price is $613. (61.3*1,000)
The market yield on WeWork Bond has gone up as the prices have declined. Bond Yield is inversely functional to Bond Prices, i.e as the bond prices go down, the yield goes up and vica-versa.

5.

6.

Price of the Bond = $1,071.87