Nathan bought a zero coupon bond in 2003 for $485.19. In 2013 he redeemed it for $1,000. His internal rate of return on this investment was (hint: zero coupon bonds have no coupon payments therefore only cashflow is outflow during purchase time and inflow during maturity time) A) 206.1%. B) 20.6%. C) 7.5%. D) 0.00%.
| 0 Coupon bond | |||||||||||
| IRR is the rate at which NPV =0 | |||||||||||
| IRR | 7.50% | ||||||||||
| Year | 0 | 1 | 2 | 3 | 4 | 5 | 6 | 7 | 8 | 9 | 10 |
| Cash flow stream | -485.190 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 | 1000.000 |
| Discounting factor | 1.000 | 1.075 | 1.156 | 1.242 | 1.335 | 1.436 | 1.543 | 1.659 | 1.783 | 1.917 | 2.061 |
| Discounted cash flows project | -485.190 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 | 485.190 |
| NPV = Sum of discounted cash flows | |||||||||||
| NPV 0 Coupon bond = | 0.000 | ||||||||||
| Where | |||||||||||
| Discounting factor = | (1 + discount rate)^(Corresponding period in years) | ||||||||||
| Discounted Cashflow= | Cash flow stream/discounting factor | ||||||||||
| IRR= | 7.50% | ||||||||||
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