#10 The YTM on a bond is the interest rate you earn on your investment if intere
ID: 2730438 • Letter: #
Question
#10
The YTM on a bond is the interest rate you earn on your investment if interest rates don’t change. If you actually sell the bond before it matures, your realized return is known as the holding period yield (HPY).
Suppose that today you buy a bond with an annual coupon of 8 percent for $1,170. The bond has 16 years to maturity. What rate of return do you expect to earn on your investment? Assume a par value of $1,000. (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)
Two years from now, the YTM on your bond has declined by 1 percent, and you decide to sell. What price will your bond sell for? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)
a.Suppose that today you buy a bond with an annual coupon of 8 percent for $1,170. The bond has 16 years to maturity. What rate of return do you expect to earn on your investment? Assume a par value of $1,000. (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)
Explanation / Answer
a.The rate of return on your investment is the yield to maturity (YTM) that is caluclated using RATE formula in excel as in =rate(nper,pmt,pv,fv) where nper = 16, pmt = 8% of 1000 = 80, pv =1170 and fv 100
Rate of return = YTM = rate(16,80,-1170,1000) = 6.285%= 6.29%
b-1. The price of the bond when rate = 6.285 - 1 = 5.285%, pmt = 80, fv = 1000 and nper = 16-2 = 14%
The price of the bond = pv(rate,nper,pmt,fv) =pv(0.05285,14,80,1000) = 1,263.94
b-2. Holding period return = Sale price + Coupon - Purchase price = 1,263.94 + 80*2 - 1,170 =253.94
So total return for 2 years = 253.94/1170 = =0.2170 21.70%
So yearly return = (1+r)^(1/n) -1 = (1+0.2170)^(1/2)-1 = 0.1031 =10.31%
Related Questions
Navigate
Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.