Question

Bond Pricing

1. Suppose you have a 7% annual coupon bond selling for $950 with three years until maturity and face value equal to $1,000. Furthermore, suppose the interest rates in the next three years are known (with certainty) to be r₁ = 8%, r₂ = 10.5% and r₃ = 13%.
   1. What is the bond’s current yield?
   2. Calculate the bond’s yield to maturity.
   3. What is the holding period return on your initial investment after the bond matures?
   4. What is the bond’s realized compound yield?

Answer 1

a. Bond's current yield= $ Annual coupon interest /Current market price
ie. (7%*1000)/950=
7.37%
b.Bond’s yield to maturity
(8%+10.5%+13%)/3=
10.5%
c.Holding period return on your initial investment after the bond matures
Face value recd, at maturity	1000
FV of the 3 yrs.' coupons ----- 70*(1.105^3-1)/0.105=	232.82
Total	1232.82
Initial investment	950.00
Hoding period return at maturity	282.82
Hoding period return %(282.82/950)=	29.77%
d. Bond’s realized compound yield
29.77%
(as in c. above)