The Saleemi Corporation's $1000 bonds pay 11 percent interest annually and have 9 years until maturity. You can purchase the bond for $1145.
a. What is the yield to maturity on this bond?
b. Should you purchase the bond if the yield to maturity on a comparable-risk bond is 7 percent?
(a)- The bond's yield to maturity.
The Yield to maturity of (YTM) of the Bond is calculated using financial calculator as follows (Normally, the YTM is calculated either using EXCEL Functions or by using Financial Calculator)
Variables |
Financial Calculator Keys |
Figure |
Par Value/Face Value of the Bond [$1,000] |
FV |
1,000 |
Coupon Amount [$1,000 x 11%] |
PMT |
110 |
Market Interest Rate or Yield to maturity on the Bond |
1/Y |
? |
Maturity Period/Time to Maturity [9 Years] |
N |
9 |
Bond Price [-$1,145] |
PV |
-1,145 |
We need to set the above figures into the financial calculator to find out the Yield to Maturity of the Bond. After entering the above keys in the financial calculator, we get the yield to maturity (YTM) on the bond = 8.62%.
“Hence, the yield-to-maturity of the Bond will be 8.62%”
(b)-The value of the Bond at market's required yield to maturity on a comparable-risk bond rate of 7.00%.
The Price of the Bond is the Present Value of the Coupon Payments plus the Present Value of the Face Value/Par Value. The Price of the Bond is normally calculated either by using EXCEL Functions or by using Financial Calculator.
Here, the calculation of the Bond Price using financial calculator is as follows
Variables |
Financial Calculator Keys |
Figures |
Par Value/Face Value of the Bond [$1,000] |
FV |
1,000 |
Coupon Amount [$1,000 x 11%] |
PMT |
110 |
Market Interest Rate or Yield to maturity on the Bond [7.00%] |
1/Y |
7 |
Maturity Period/Time to Maturity [9 Years] |
N |
9 |
Bond Price |
PV |
? |
Here, we need to set the above key variables into the financial calculator to find out the Price of the Bond. After entering the above keys in the financial calculator, we get the Price of the Bond = $1,260.61.
Decision
“NO”. We should not purchase the bond, since the bond is trading at a premium price of $1,260.61.
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