Question

Individual C is considering the purchase of a single payment bond issued by the U. S....

Individual C is considering the purchase of a single payment bond issued by the U. S. Treasury. The payment will be made in exactly 5 years and has a face value of $10,000. The payment will be made with certainty because it was issued by the U. S. Treasury. Interest rates on similar risk bonds currently is 2.75%. How much should C expect to pay for the bond?

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Homework Answers

Answer #1

C should pay an amount equal to the present value of the bond taking into account the interest rate on similar risk bonds.

Face value of the bond is $10,000. The duration of bond is 5 years. This means that C will receieve $10,000 after five years, if he purchases the bond now.

So,

Future value (FV) = $10,000

Time Period (n) = 5 years

Interest rate (i) = 2.75% or 0.0275

Calculate the Present Value (PV) -

PV = FV/(1+i)n = $10,000/(1+0.0275)5 = $10,000/(1.0275)5 = $10,000/1.1453 = $8,731.34

Thus,

C is expected to pay $8,731.34 for the bond.

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