Question

Insook, Inc., and Hankyu Corp. both have 7 percent coupon bonds outstanding, with semi-annual interest payments,...

Insook, Inc., and Hankyu Corp. both have 7 percent coupon bonds outstanding, with semi-annual interest payments, and both are prices at par value. The Insook, Inc. bond has 2 years to maturity, whereas the Hankyu Corp. bond has 5 years to maturity.

a. If the interest rates suddenly rise by 2 percent, what is the price of Insook, and Hankyu’s bonds respectively?

b. What is the Macaulay duration of Insook, and Hankyu’s bonds respectively if the interest rates increase by 2%?

c.Which bond (Insook or Hankyu) is exposed to higher interest rate risk? Why?

d) What are factors affecting interest rate risk?

Which bond (Insook or Hankyu) is exposed to higher interest rate risk? Why?

Homework Answers

Answer #1

Solution

Since both the bonds are trading at par value, YTM = interest rate = 7%

Now YTM is increased by 2% , and hence new YTM = 9%

Since interest is paid semi annual , YTM = 9%/2 = 4.5%

Statement showing Price and Macaulay duration of Insook, Inc

No of payments Interest payments Redemption value Total cash flow PVIF @ 4.5% PV of cash flow Weightage of PV of cash flow Macaulay duration
1 35 35 0.9569 33.49 0.0347 0.03
2 35 35 0.9157 32.05 0.0332 0.07
3 35 35 0.8763 30.67 0.0318 0.10
4 35 1000 1035 0.8386 867.91 0.9002 3.60
964.12 3.80

Price of bond is nothing but present value of future cash flow

Thus price of Insook, Inc = $964.12

Macaulay duration = 3.80/2 = 1.9 years

Statement showing Price and Macaulay duration of Hankyu Corp.

No of payments Interest payments Redemption value Total cash flow PVIF @ 4.5% PV of cash flow Weightage of PV of cash flow Macaulay duration
A B C =A x B
1 35 35 0.9569 33.49 0.0364 0.04
2 35 35 0.9157 32.05 0.0348 0.07
3 35 35 0.8763 30.67 0.0333 0.10
4 35 35 0.8386 29.35 0.0319 0.13
5 35 35 0.8025 28.09 0.0305 0.15
6 35 35 0.7679 26.88 0.0292 0.18
7 35 35 0.7348 25.72 0.0279 0.20
8 35 35 0.7032 24.61 0.0267 0.21
9 35 35 0.6729 23.55 0.0256 0.23
10 35 1000 1035 0.6439 666.47 0.7237 7.24
920.87 8.54

Price of bond is nothing but present value of future cash flow

Thus price of Hankyu Corp. = $920.87

Macaulay duration = 8.54/2 = 4.27 years

Thus

a) If interest rate rises by 2% then

Price of Insook, Inc = $964.12

Price of Hankyu Corp. = $920.87

b) If interest rate rises by 2% then

Macaulay duration Insook, Inc = 1.9 years

Macaulay duration Hankyu Corp = 4.27 years

c) Hankyu Corp's bond is exposed to higher interest rate risk because it has larger duration, greater the duration more price is sensitive to interest rate change

d) Factors affecting interest rate risk are duration of bond , coupon rate of bond, credit risk of the company issuing the bonds etc

Know the answer?
Your Answer:

Post as a guest

Your Name:

What's your source?

Earn Coins

Coins can be redeemed for fabulous gifts.

Not the answer you're looking for?
Ask your own homework help question
Similar Questions
Insook, Inc., and Hankyu Corp. both have 7 percent coupon bonds outstanding, with semi-annual interest payments,...
Insook, Inc., and Hankyu Corp. both have 7 percent coupon bonds outstanding, with semi-annual interest payments, and both are prices at par value. The Insook, Inc. bond has 2 years to maturity, whereas the Hankyu Corp. bond has 5 years to maturity. a) If the interest rates suddenly rise by 2 percent, what is the price of Insook, and Hankyu’s bonds respectively? (3 points) b) What is the Macaulay duration of Insook, and Hankyu’s bonds respectively if the interest rates...
Both Bond Sam and Bond Dave have 7 percent coupons, make semi-annual payments, and are priced...
Both Bond Sam and Bond Dave have 7 percent coupons, make semi-annual payments, and are priced at par value. Bond Sam has 3 years to maturity, whereas Bond Dave has 20 years to maturity. If interest rates suddenly rise by 2 percent, what is the percentage change in the price of Bond Sam? Of Bond Dave? If rates were to suddenly fall by 2 percent instead, what would the percentage change in the price of Bond Sam be then? Of...
19, Interest Rate Risk The Faulk Corp. has a 7 percent coupon bond outstanding. The Yoo...
19, Interest Rate Risk The Faulk Corp. has a 7 percent coupon bond outstanding. The Yoo Company has an 11 percent bond outstanding. Both bonds have 12 years to maturity, make semiannual payments, and have a YTM of 9 percent. If interest rates suddenly rise by 2 percent, what is the percentage change in the price of these bonds? What if interest rates suddenly fall by 2 percent instead? What does this problem tell you about the interest rate risk...
the faulk corp. has a 7 percent coupon bond outstanding. the yoo company has an 11...
the faulk corp. has a 7 percent coupon bond outstanding. the yoo company has an 11 percent bond outstanding. both bonds have 12 years to maturity, make semiannual payments and have a ytm of 9 percent. if interest rates suddenly rise by 2 percent, what is the percentage change in the price of these bonds? what if interest rates suddenly fall by 2 percent instead? what does this problem tell you about the interest rate risk of lower coupon rates
The Faulk Corp. has a bond with a coupon rate of 7 percent outstanding. The Gonas...
The Faulk Corp. has a bond with a coupon rate of 7 percent outstanding. The Gonas Company has a bond with a coupon rate of 13 percent outstanding. Both bonds have 12 years to maturity, make semiannual payments, and have a YTM of 10 percent. If interest rates suddenly rise by 2 percent, what is the percentage change in the price of these bonds? What if rates suddenly fall by 2 percent instead?
The Faulk Corp. has a bond with a coupon rate of 5 percent outstanding. The Gonas...
The Faulk Corp. has a bond with a coupon rate of 5 percent outstanding. The Gonas Company has a bond with a coupon rate of 11 percent outstanding. Both bonds have 19 years to maturity, make semiannual payments, and have a YTM of 8 percent. If interest rates suddenly rise by 2 percent, what is the percentage change in the price of these bonds? What if rates suddenly fall by 2 percent instead? Please show all work!
Both Bond Sam and Bond Dave have 9 percent coupons, make semiannual payments, and are priced...
Both Bond Sam and Bond Dave have 9 percent coupons, make semiannual payments, and are priced at par value. Bond Sam has 3 years to maturity, whereas Bond Dave has 20 years to maturity. If interest rates suddenly rise by 2 percent, what is the percentage change in the price of Bond Sam? Of Bond Dave? If rates were to suddenly fall by 2 percent instead, what would the percentage change in the price of Bond Sam be then? Of...
Airnova Inc. has two types of bonds, Bond D and Bond F. Both have 8 percent...
Airnova Inc. has two types of bonds, Bond D and Bond F. Both have 8 percent coupons, make semiannual payments, and are priced at par value. Bond D has 2 years to maturity. Bond F has 15 years to maturity. Airnova Inc. is considering four different types of stocks. They each have a required return of 20 percent and a dividend of $3.75 for share. Stocks, A, B, and C are expected to maintain constant growth rates in dividends for...
Both Bond Sam and Bond Dave have 7 percent coupons, make semiannual payments, and are priced...
Both Bond Sam and Bond Dave have 7 percent coupons, make semiannual payments, and are priced at par value. Bond Sam has 4 years to maturity, whereas Bond Dave has 16 years to maturity. a) If interest rates suddenly rise by 5 percent, what is the percentage change in the price of Bond Sam? b) If interest rates suddenly rise by 5 percent, what is the percentage change in the price of Bond Dave? c) If rates were to suddenly...
Both Bond Bill and Bond Ted have 10 percent coupons, make semiannual payments, and are priced...
Both Bond Bill and Bond Ted have 10 percent coupons, make semiannual payments, and are priced at par value. Bond Bill has 3 years to maturity, whereas Bond Ted has 20 years to maturity. Both bonds have a par value of 1,000. If interest rates suddenly rise by 3 percent, what is the percentage change in the price of these bonds?