Two bonds have the following terms:
Bond A 

Principal 
$1,000 
Coupon 
8% 
Maturity 
10 years 
Bond B 

Principal 
$1,000 
Coupon 
7.6% 
Maturity 
10 years 
Bond B has an additional feature: It may be redeemed at par after five years (i.e., it has a put feature). Both bonds were initially sold for their face amounts (i.e., $1,000).
If interest rates rise to 9 percent, what will be the decline in the price of each bond from its initial price?
c) Given your answers to questions (a) and (b), what is the tradeoff implied by the put option in bond B?
d) Bond B requires the investor to forgo $4 a year (i.e., $40 if the bond is in existence for ten years). If interest rates are 8 percent, what is the present value of this forgone interest? If the bond had lacked the put feature but had a coupon of 7.6 percent and a term to maturity of ten years, it would sell for $973.16 when interest rates were 8 percent. What, then, is the implied cost of the put option?
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