Question

YIELD TO MATURITY

Harrimon Industries bonds have 5 years left to maturity. Interest is paid annually, and the bonds have a $1,000 par value and a coupon rate of 10%.

1. What is the yield to maturity at a current market price of
   
   1. $854? Round your answer to two decimal places.
         %
      
   2. $1,136? Round your answer to two decimal places.
         %
      
2. Would you pay $854 for each bond if you thought that a "fair" market interest rate for such bonds was 13%-that is, if r_d = 13%?
   
   1. You would buy the bond as long as the yield to maturity at this price is greater than your required rate of return.
   2. You would buy the bond as long as the yield to maturity at this price is less than your required rate of return.
   3. You would buy the bond as long as the yield to maturity at this price equals your required rate of return.
   4. You would not buy the bond as long as the yield to maturity at this price is greater than your required rate of return.
   5. You would not buy the bond as long as the yield to maturity at this price is less than the coupon rate on the bond.
   
   
   -Select-

Answer 1

Bond Par Value = $1,000

Time to Maturity = 5 years

Coupon Rate = 10% annually

a.

Bond Price = $854

Calculating YTM,

Using TVM Calculation,

I = [FV = 1000, PV = 854, T = 5, PMT = 100]

I = 14.28%

YTM = 14.28%

b.

Bond Price = $1,136

Calculating YTM,

Using TVM Calculation,

I = [FV = 1000, PV = 1,136, T = 5, PMT = 100]

I = 6.71%

YTM = 6.71%

c.

At this price YTM = 14.28% and required rate = 13%,

So, if we buy this bond at $854 we are earning more than required rate.

You would buy the bond as long as the yield to maturity at this price is greater than your required rate of return.