Question

You are currently considering purchasing a 20 year, 8% bond that pays coupon semiannually. You also determine that the current yield to maturity (ytm) is 11%. In 5 years you decide to sell the bond when the ytm is 6%. Compute the before tax holding period return.

Answer 1

Value of bond is equal to the present value of all future coupon payments and the redemption amount

Let the par value of bnd be 1,000

Value of Bond today = 1,000*8%*1/2*PVAF(5.5%, 40 periods) + 1,000*PVF(5.5%, 40 periods)

= 40*16.04612+ 1,000*0.117463

= $759.31

Value of bond after 5 years = 40*PVAF(3%, 30 periods) + 1,000*PVF(3%, 30 periods)

= 40*19.60044 + 1,000*0.411986

= $1,196

Holding period return = 40*10+ (1,196-759.31) = $836.69 or 836.69/759.31 = 110.19%