Question

Consider a zero-coupon bond that matures in 4 years. If it is currently trading at a 22% discount to its face value, what is its yield to maturity? Circle your final answer.

Answer 1

Solution : Yeild to maturity here is the rate of interest that the investors receives if he ratains the bond with him till the maturity date. It is also know as Internal rate of return. It is the rate at which Net present value of the bond becomes equal to zero,

So

LET US SUPPOSE THAT THE BOND FACE VALUE IS 1000 AND IT IS ISSUED AT 22 5 DISCOUNT I.E AT A DISCOUNT OF $ 220. SO THE ISSUED VALUE = 780

So the present value is 780. Hence yeild to maturity is that rate at which the future value of the bond is equal to the present value of the bond .

780 = 1000/(1+r)^n

(1+r)^n = 1000 /780

1 +r = 1.128^(1/4)

r = 1.0640-1

r = 6.40.