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FIN 612 Managerial Finance Week Five Assignment
FIN 612 Managerial Finance Week Five Assignment
Recall the formula to find the bond price on the date of a coupon payment:
P = F*r*[1 -(1+i)^-n]/i + C*(1+i)^-n, where
------------------------------------F = par value
C = maturity value
r = coupon rate per coupon payment period
i = effective interest rate per coupon payment period
n = number of coupon payments remaining
---------------------An easy way to derive this formula is to note that the bond price is the present value of all coupons (first term in
formula) + the present value of the maturity value (second term in formula)
-----------------In this problem F = 1000. Since we are not given the maturity value, we can assume that it is the same as the par
value. So, C = 1000.
r = .08
i = .09
n = 12
Therefore, the bond price is 1000*.08 * (1 - 1.09^-12)/.09 + 1000*1.09^-12 = $928.39
(5-2) Wilson Wonderss bonds have 12 years remaining to maturity. Interest is paid annually,
the bonds have a $1,000 par value, and the coupon interest rate is 10%. The bonds sell at a
price of $850. What is their yield to maturity?
100+1000-850/12/1000+850/2 = 112.5/925 = .1216 or 12.16%
(5-5) A Treasury bond that matures in 10 years has a yield of 6%. A 10-year corporate bond has
a yield of 9%. Assume that the liquidity premium on the corporate bond is 0.5%. What is
the default risk premium on the corporate bond?
YTM-Liquidity-Risk free = default risk premium...
YTM = 9%
Liquidity = 0.5%
Risk free = 6%
9%-0.5%-6% = 2.5%
(5-6) The real risk-free rate is 3%, and inflation is expected to be 3% for the next 2 years. A 2-year
Treasury security yields 6.3%. What is the maturity risk premium for the 2-year security?
r = rfr + ir + Mrp
6.3% = 3% + 3% + Mrp
Mrp = 6.3% - 6% = 0.3%
(5-7) Renfro Rentals has issued bonds that have a 10% coupon rate, payable semiannually.
The bonds mature in 8 years, have a face value of $1,000, and a yield to maturity of 8.5%.
What is the price of the bonds?
Annual
Semi-annual
0.105883
0.0529415
0.9497
$55.00
$52.23
0.9020
$55.00
$49.61
0.8566
$55.00
$47.11
0.8136
$55.00
$44.75
0.7726
$55.00
$42.50
0.7338
$55.00
$40.36
0.6969
$55.00
$38.33
0.6619
$55.00
$36.40
0.6286
$55.00
$34.57
10
0.5970
$55.00
$32.83
11
0.5670
$55.00
$31.18
12
0.5385
$55.00
$29.62
13
0.5114
$55.00
$28.13
14
0.4857
$55.00
$26.71
14
0.4857
$1,000.00
$485.68
$1,020.01
(5-18) The real risk-free rate is 2%. Inflation is expected to be 3% this year, 4% next year, and
then 3.5% thereafter. The maturity risk premium is estimated to be 0.0005 (t 1), where
t = number of years to maturity. What is the nominal interest rate on a 7-year Treasury
security?
Nominal interest rate is given as
r = r* + IP + MRP
r* is the risk free rate
DRP = LP = 0.IP = [(3%)1 + (4%)1 + (3.5%)5]/7 = 3.5%.MRP = 0.0005%(7 1) = 0.003%.r12 = 3% + 3.15% +
0.003% = 6.153%.
(5-21) Suppose Hillard Manufacturing sold an issue of bonds with a 10-year maturity, a $1,000
par value, a 10% coupon rate, and semiannual interest payments.
a. Two years after the bonds were issued, the going rate of interest on bonds such as
these fell to 6%. At what price would the bonds sell?
Given:
TTM = 10 years Par = $1,000 Coupon = 10% ($50 payments) r = 6% (after two years)
Using Financial Functions on
Make a g
$55
n = (10 x 2) - (2 x 2) = 16 i = 6% x .5 = 3
PMT = $100 x .5 = 50 FV = 1000
PV = solve
PV = -$1,251.2220
Bond Price = $1,251.22
b. Suppose that 2 years after the initial offering, the going interest rate had risen to 12%.
At what price would the bonds sell?
Given:
TTM = 10 years Par = $1,000 Coupon = 10% ($50 payments) r = 12% (after two years)
Using Financial Functions on:
n = (10 x 2) - (2 x 2) = 16 i = 12% x .5 = 6
PMT = $100 x .5 = 50 FV = 1000
PV = solve
PV = -$898.9410
Bond Price = $1,251.22
Bond Price = $898.94
c. Suppose that 2 years after the issue date (as in part a) interest rates fell to 6%.
Suppose further that the interest rate remained at 6% for the next 8 years. What
would happen to the price of the bonds over time?
As time progresses, the price/value of the bond will slowly decrease. this table illustrates that:
Using Financial Functions: (Assume i, PMT, and FV remain constant for following figures)
n Price
20 $1,297.55
16 $1,251.22
12 $1,199.08
8 $1,140.39
4 $1,074.34
2 $1,038.27