Question

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.)

Answer 1

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%