Question

Joseph wants to invest his money to earn at least 16%. A friend who is interested in investments has suggested him to buy a bond issued by ABC Company that will mature in eight years. It has a face value of $1,000, pays a semi-annual coupon of $90, and currently sells for $1,200. Should he buy this bond? Why or why not?

Answer 1

.Information provided:

Face value= future value= $1,000

Market price= present value= $1,200

Time= 8 years*2= 16 semi-annual periods

Semi-annual coupon payment= $90

The yield to maturity is calculated by entering the below in a financial calculator:

FV= 1,000

PV= -1,200

N= 16

PMT= 90

Press the CPT key and I/Y to compute the yield to maturity.

The value obtained is 6.90%.

Therefore, the annual yield to maturity is 6.90%*2= 13.7945% 13.79%.

Joseph should not buy the bond since the return from the bond is lower than his expected return of 16%.

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