Use excel in all of the problems. 1) Dewey Cheetham & Howe Accounting firm is co

Question

Use excel in all of the problems. 1) Dewey Cheetham & Howe Accounting firm is considering the purchase of a $1,000 New Haven Municipal Bond. The stated coupon rate is 5%, paid semi-annually (twice a year) The bond will mature in 20 years. The YTM for similar bonds is 2.5%. e) What should the market price of the bond be if YTM were 6% annually? f) Explain why an investor would buy a bond at a premium or at a discount g) What is the Yield to Call if the bond is callable in 10 years at a 12% premium with the original semi-annual coupon?

Explanation / Answer

Par Value =$1000

Coupon Rate= 5.00% or 2.50% semi-annually

Time to Maturiry = 20 years or 40 semi-annual periods

a.) Let y be the YTM of the bond.

       = 25x{(1-(1+0.03)-40)/0.03} + 1000/(1+0.03)40

       = 25x23.1148 + 306.5568

       = 577.87 + 306.5568

       = 884.4261

b.) The investor would buy bond at a discount as he is getting higher yield to maturity than the coupon rate.

c.) Since the bonds are callable in 10 years,

Call Premium = $0.12x1000 =$120

884.43= 25x{(1-(1+y)-20)/y} + (1000+120)/(1+y)20

884.43= 25x{(1-(1+y)-20)/y} + 1120/(1+y)20

Using Trial and Error Method to solve the equation for y,

For y =0.04, RHS=850.92

For y =0.06, RHS=635.97

For y =0.03, RHS=992.05

For y =0.03745, RHS=884.43

Hence the annual YTM = 0.03745x2 =7.49%

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