A Hong Kong bond with a coupon of 10% is initially priced at HK$1,000. At the end of the year, the bond is selling for HK$1,200. If the Hong Kong dollar depreciates by 5%, what will the U.S. dollar return on the bond equal at the end of the year?

Question

Quizplus · Accepted Answer

The initial price of the bond is HK$1,000, and the coupon is 10%, so the annual coupon payment is HK$100. 
At the end of the year, the bond is selling for HK$1,200, which means a capital gain of HK$200. 
The total return on the bond is the sum of the coupon payment and the capital gain, which is HK$100 + HK$200 = HK$300.
However, the Hong Kong dollar depreciates by 5%, so HK$1,200 at the end of the year is worth only 95% of its initial value in U.S. dollars, which is HK$1,140. 
Therefore, the U.S. dollar return on the bond is HK$300 / HK$1,140 = 26.32%, which is closest to choice C (23.5%).

A Hong Kong Bond with a Coupon of 10% Is