Question

Suppose you purchase a 9-year AAA-rated Swiss bond for par that is paying an annual coupon of 5 percent and has a face value of 1,900 Swiss francs (SF). The spot rate is U.S. $0.66667 for SF1. At the end of the year, the bond is downgraded to AA and the yield increases to 7 percent. In addition, the SF depreciates to U.S. $0.74074 for SF1.

a.	What is the loss or gain to a Swiss investor who holds this bond for a year? (Input the amount as a positive value. Do not round intermediate calculations. Round your answer to 2 decimal places. (e.g., 32.16))

(Click to select)LossGain to Swiss investor

%

b.	What is the loss or gain to a U.S. investor who holds this bond for a year? (Input the amount as a positive value. Do not round intermediate calculations. Round your answer to 2 decimal places. (e.g., 32.16))

(Click to select)LossGain to U.S. investor

%

Answer 1

Since the bond is trading at par, value of the bond at the beginning of the year = face value = SF 1,900

Annual coupon =5%of face value = SF 95

Value of the bond at the end of the year = Sum of cash flows discounted at the yield of 7%

=5/1.07+5/1.07² + ...................+(5+1900)/1.07⁸ = SF 1,673.09

Loss to the investor who holds the bond for a year =(Coupon+ current bond value)/Initial bond value -1

= (95+1673.09)/1900-1

= - 6.94%

So the investor made a loss of 6.94%

b. Initially, value of bond to US investor = Value of bond*Spot rate = 1900*0.66667 = $1266.67

Value of coupon received and bond after 1 year = (95+1673.09)*0.74074 = $1309.70

Gain to the US investor = 1309.70/1266.67-1 = 3.40%

The US investor made a gain of 3.40%