Question

GNAT bonds are selling at $1,200. The bonds carry a coupon interest rate of 6.1 percent and mature in 9 years. What is the expected rate of return? Use your answer in a sentence. Given long-term interest rates are at 3.75 percent, is the bond worth purchasing? Why?

Answer 1

Given about GNAT's bond,

Price = $1200

Coupon rate = 6.1% paid annually

Years to maturity = 9 years

Face value = $1000

So, annual coupon payment = 6.1% of 1000 = $61

So, expected return or yield to maturity on this bond is calculated using following values on financial calculator:

FV = 1000

PV = -1200

PMT = 61

N = 9

compute for I/Y, we get I/Y = 3.47

So, Expected return on the bond is 3.47%

If long-term interest rates are 3.75%, GNAT bonds are providing lower return to its investor. So this bonds should not be purchased.