Question

In: Finance

FYI bonds have a par value of $1,000. The bonds pay $40 in interest every six...

FYI bonds have a par value of $1,000. The bonds pay $40 in interest every six months and will mature in 10 years.

a. Calculate the price if the yield to maturity on the bonds is 7, 8, and 9 percent, respectively.

b. Explain the impact on price if the required rate of return decreases.

c. Compute the coupon rate on the bonds. How does the relationship between the coupon rate and the yield to maturity determine how a bond's price will compare to it par value?

Solutions

Expert Solution

let me know if you need any clarification..

ans a
we have to use financial calculator to solve this problem
put in calculator for each individual case
YTM 7% YTM 8% YTM 9%
FV 1000 1000 1000
PMT 40 40 40
N=10*2 20 20 20
I =7%/2 3.50% 8%/2 4% 9%/2 4.5%
Compute PV ($1,071.06) ($1,000.00) ($934.96)
therfore price = $1,071.06 $1,000.00 $934.96
ans b If required rate of return decrease bond price will increase. This is because bond offered coupon
will proivde return as per coupon rate but discount rate will be lower, therefore causing bond price to increase
Ans c)
Coupon rate on bond = (40/1000)*2 = 8.00% Coupon paid semiannual
There is inverse relation between coupon rate and yield to maturity.
Coupon rate will not change once bond is issed
so at the time of issue if coupon rate is higher than YTM bond will be issed at premium
So relationship is as below - If coupon rate > YTM bond will be traded at premium
If coupon rate < YTM bond will trade at discount
If coupon rate = YTM bond will be traded at par

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