Five years ago, Jackson Corporation issued twenty-five-year 10% annual coupon bonds with a $1,000 face value each. Since then, interest rates in general have risen, and the yield to maturity on the Thompson Tarps bonds is now 12%. Given this information, what is the price of the bonds today?

Question

Quizplus · Accepted Answer

The price of a bond is the present value of its future cash flows, which include the annual coupon payments and the face value at maturity. Since interest rates have risen from 10% to 12%, the price of the bond will decrease below its face value to offer a yield that matches the current market rate. The correct calculation involves discounting the future cash flows (annual coupons of $100 for the remaining 20 years and the $1,000 face value) at the new yield to maturity of 12%. The result of this calculation is closest to $851, making option B the correct answer.

Five Years Ago, Jackson Corporation Issued Twenty-Five-Year 10% Annual Coupon