Question

A corporate bond has a face value of $1000 with a maturity date 20 years from today. The bond pays interest semiannually at a rate of 8% based on the face value (this means 8%/yr/semi). The interest rate paid on similar corporate bonds has decreased to a current rate of 6%/yr/semi (this would be i – the yield rate). What is the market value of this bond, or what should an investor pay for the bond?

Answer 1

Face value = 1000

Coupon rate = 8%

Interest is paid semi-annually.

Coupon payment = (1000 * 0.08)/2 = 40

Market interest rate = 6% per annum compounded semi-annually

Since, market interest rate is compounded semi-annually.

Adjusted market interest rate = 6%/2 = 3%

Adjsted time period = 20 * 2 = 40

Calculate Bond Price -

Bond Price = PV of interest payment + PV of face value

Bond Price = 40(P/A, 3%, 40) + 1000(P/F, 3%, 40)

Bond Price = (40 * 23.1148) + (1000 * 0.3066)

Bond Price = 924.59 + 306.6

Bond Price = 1,231.19

The market value of this bond is $1,231.19