You bought one of Rocky Mountain Manufacturing Co.’s 8 percent coupon bonds one

Question

You bought one of Rocky Mountain Manufacturing Co.’s 8 percent coupon bonds one year ago for $1,050.30. These bonds make annual payments and mature nine years from now. Suppose that you decide to sell your bonds today, when the required return on the bonds is 7.50 percent.

If the inflation rate was 3.5 percent over the past year, what would be your total real return on investment?(Do not round intermediate calculations. Enter your answer as a percentage rounded to 2 decimal places (e.g., 32.16).)

You bought one of Rocky Mountain Manufacturing Co.’s 8 percent coupon bonds one year ago for $1,050.30. These bonds make annual payments and mature nine years from now. Suppose that you decide to sell your bonds today, when the required return on the bonds is 7.50 percent.

Explanation / Answer

                    K = N          
BOND PRICE= [(Coupon)/(1 + YTM)^k]     +   Par value/(1 + YTM)^N
                   k=1

K = 9   
BOND PRICE today = [(8*1000/100)/(1 + 7.5/100)^k]     +   1000/(1 + 7.5/100)^9
k=1

Price today = 1031.8944

Nominal return = (price today+coupon-price 1 year back)*100/price 1 year back

=(1031.8944-1050.3+80)*100/1050.3

=5.864%

Real rate = ((1+nominal rate)/(1+inflation rate)-1)*100

=((1+.05864)/(1+.035)-1)*100

=2.28%

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