Suppose that you just bought a four-year $1,000 coupon bond with a coupon rate of 6.4% when the market interest rate is 6.4%. One year later, the market interest rate falls to
4.4%. The rate of return earned on the bond during the year was x %.
(Round your response to two decimal places.)
Now, when the bond was issued, coupon rate = YTM. So issuance price = par value = $1000.
After 1 year, YTM falls to 4.4%. We need to calculate price of bond then.
where P is price of bond with periodic coupon C, M face value, periodic YTM i and n periods to maturity.
M = $1000, C = $64, n = 3, i = 4.4%
P = $176.27 + $878.82 = $1,055.08
Rate of Return = (Final Price - Initial Price + Coupon)/Initial Price
Rate of Return = (1055.08 - 1000 + 64)/1000 = 119.08/1000 = 1.19%
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