Question

A bond with a face value of $1,000 has 10 years until maturity, carries a coupon rate of 8.8%, and sells for $1,120. Interest is paid annually. (Assume a face value of $1,000 and annual coupon payments.)

**a.** If the bond has a yield to maturity of 9.2%
1 year from now, what will its price be at that time? **(Do
not round interme****diate calculations.
R****ound your answer to nearest whole
number.****)**

**b.** What will be the rate of return on the bond?
**(Do not rou****nd intermediate calculations.
Enter your answer as a percent rounded to 2 decimal places.
Negative amount should be indicated by a minus sign.)**

**c.** If the inflation rate during the year is 3%,
what is the real rate of return on the bond? (Assume annual
interest payments.) **(Do not round intermediate
calculations. Enter your answer as a percent rounded to 2 decimal
places. Negative amount should be indicated by a minus
sign.)**

Answer #1

a)

FV = 1000

Nper = 10 - 1 = 9

PMT = 1000 * 8.8% = 88

Rate = 9.2%

Price of the bond can be calculated by using the following excel
formula:

=PV(rate,nper,pmt,fv)

=PV(9.2%,9,-88,-1000)

= $976.21

Price of the bond = $976.21

b)

Rate of return = (Price 1 year from now - Purchase Price + coupon)
/ Purchase Price

= ($976.21 - $1,120 + $88) / $1,120

= -4.98%

Rate of return = -4.98%

c)

Real rate of return = (1 + nominal rate of return) / (1 + inflation
rate) - 1

= (1 - 0.0498) / (1 + 0.03) - 1

= -7.75%

Real rate of return = -7.75%

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