Assume that you are considering the purchase of a R1,000 par value bond that pays interest of R70 each six months and has 10 years to go before it matures.If you buy this bond, you expect to hold it for 5 years and then to sell it in the market.You (and other investors) currently require a simple annual rate of 16 percent, but you expect the market to require a rate of only 12 percent when you sell the bond due to a general decline in interest rates.How much should you be willing to pay for this bond?

Question

Quizplus · Accepted Answer

First, we need to calculate the present value of the bond using the current required rate of 16%:

PV = [70/(1+(16/2))] + [70/(1+(16/2))^2] + ... + [1070/(1+(16/2))^20]
PV = 628.83 + 554.77 + ... + 218.25
PV = 8,676.33

Next, we need to find the future value of the bond in 5 years assuming the market requires a rate of 12%:

FV = [70/(1+(12/2))] + [70/(1+(12/2))^2] + ... + [1070/(1+(12/2))^10]
FV = 736.33 + 656.72 + ... + 1,000
FV = 9,526.94

Then, we need to calculate the present value of the future value using the market required rate of 12%:

PVFV = 9,526.94 / (1+(12/2))^5
PVFV = 6,155.25

Finally, we need to discount the present value of the bond by the present value of the future value:

PV = 8,676.33 / (1+(16/2))^5 + 6,155.25 / (1+(16/2))^5
PV = 966.99

Therefore, the answer is D) R966.99.

Assume That You Are Considering the Purchase of a R1,000