Question

3. An 8% coupon bond (assume annual coupons) matures in exactly 20 years. If you require a yield-to-maturity of 9%, how much should you be willing to pay for this bond? (Assume a $1,000 par value). a. Will the bond trade at a discount or premium to par? Explain! b. Set up the equation for computing the value of a bond. c. Indicate how you would solve the problem using a financial calculator.

Answer 1

(a) Par Value = $ 1000, Coupon Bond = 8 % with annual payments, Tenure = 20 years and Yield to Maturity (YTM) = 9 %

As the bond's required return (YTM) is greater than the bond's offered return (coupon rate), the bond buyers' need to be compensated for this deficit in return. Therefore, bond buyers will buy the bond at a discount.

(b) Bond Price = Sum of Present Values of Bond Coupons and Par Value Redeemed at Maturity

Annual Coupon = 0.08 x 1000 = $ 80

Bond Price = 80 x (1/0.09) x [1-{1/(1.09)^(20)}] + 1000 / (1.09)^(20) = $ 908.71

(c)

- Input PMT = 80, I/Y = 9%, N = 20, FV = 1000

- CMPT-> PV

- PV = $ 908.714

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