Question

Suppose you bought a bond with an annual coupon of 6 percent one year ago for $964. The bond sells for $938 today. If the inflation rate last year was 3 percent and the face value of the bond is $1000, what was your total real rate of return on this investment? (Negative amount should be indicated by a minus sign. Enter your answer as a percentage, omit the "%" sign in your response, and round your answer to 2 decimal places. For example, 0.12345 or 12.345% should be entered as 12.35)

Answer 1

Face Value = $1,000

Annual Coupon Rate = 6%
Annual Coupon = 6% * $1,000
Annual Coupon = $60

Purchase Price = $964
Selling Price = $938

Nominal Rate of Return = (Selling Price + Annual Coupon - Purchase Price) / Purchase Price
Nominal Rate of Return = ($938 + $60 - $964) / $964
Nominal Rate of Return = 0.0353 or 3.53%

Real Rate of Return = (Nominal Rate of Return - Inflation Rate) / (1 + Inflation Rate)
Real Rate of Return = (0.0353 - 0.0300) / (1 + 0.0300)
Real Rate of Return = 0.0053 / 1.0300
Real Rate of Return = 0.0051 or 0.51%

So, your real rate of return on this investment is 0.51%