P 6-26 (similar to) Question Help The following table summarizes the yields to m
ID: 2795423 • Letter: P
Question
P 6-26 (similar to) Question Help The following table summarizes the yields to maturity on several one-year, zero-coupon securities: Security Treasury AAA corporate BBB corporate B corporate Yield (%) 3.11 3.24 4.22 4.87 a. What is the price (expressed as a percentage of the face value) of a one-year, zero-coupon corporate bond with a AAA rating? b. What is the credit spread on AAA-rated corporate bonds? c. What is the credit spread on B-rated corporate bonds? d. How does the credit spread change with the bond rating? Why? a. What is the price (expressed as a percentage of the face value) of a one-year, zero-coupon corporate bond with a AAA rating? The price of this bond will be %. (Round to three decimal places.)Explanation / Answer
a) Price of a bond is computed by discounting the cash flows of the bond using YTM as the discount rate. A zero - coupon bond has only one cash flow , i.e., the face value on maturity.
One - Year Zero - coupon Bond
Let us assume the face value is $1000.
Rating - AAA
YTM - 3.24%
Maturity - 1 year
Price = $1000 x 1 / (1.0324) = $968.616815187 or $968.617
Price as percentage of face value = ($968.617 / $1000) x 100 = 96.8617% or 96.862% (Their can a be rounding off difference, you can try 96.861% as well)
b) Credit spread is the difference between the yield of a treasury bond and a debt security.
Credit spread on AAA-rate corporate bonds = 3.24% - 3.11% = 0.13% or 13 basis points
c) Credit spread on B-rated corporate bonds = 4.87% - 3.11% = 1.76% or 176 basis points
d) Credit spread changes as the bond rating changes. The spread widens as the rating decreases.
Related Questions
Navigate
Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.