Question

How does one determine the value of any asset whose value is based on expected future cash flow? (C)

           

How is the value of a bond determined? What is the value of a 10-year $1000 par value bond with a 10% annual coupon if its required rate of return is 10%? (D)

Answer 1

1.The value of an asset based on expected future cash flow is valued using the discounted cash flow method.

Formula for computing net present value:

DCF= CF1/1+r)^1+ CF2/1+r)^2……+ CFn/1+r)^n

2.Information provided:

Par value= future value= $1,000

Time= 10 years

Coupon rate= 10%

Coupon payment= 0.010*1,000= $100

Required return= 10%

The value of the bond is calculated by computing the present value.

Enter the below in a financial calculator to compute the present value:

FV= 1,000

N= 10

PMT= 100

I/Y= 10

Press the CPT key and PV to compute the present value.

The value obtained is 1,000.

Therefore, the value of the bond is $1,000.