Question 1

A $1000 par value 10-year bond with a 10% coupon rate recently sold for $900.The yield to maturity [blank].

Accepted Answer

Since the bond sold for less than par value ($900 vs. $1000), that means the yield to maturity is higher than the coupon rate (10%). Therefore, the answer is B, it is greater than 10%.

Question 2

Colby & Company bonds pay semi-annual interest of $50.They mature in 15 years and have a par value of $1000.The market rate of interest is 8%.The market value of Colby bonds is (round to the nearest dollar)[blank].

Accepted Answer

The correct answer is A. The market value of Colby bonds is $1173.The bond's price can be calculated using the present value formula:PV = C * [1 - (1 + r)^-n] / r + FV / (1 + r)^nwhere:PV is the present value of the bondC is the semi-annual coupon paymentr is the semi-annual market rate of interestn is the number of semi-annual periods to maturityFV is the face value of the bondIn this case, we have:C = $50r = 8% / 2 = 4%n = 15 * 2 = 30FV = $1000Plugging these values into the formula, we get:PV = $50 * [1 - (1 + 0.04)^-30] / 0.04 + $1000 / (1 + 0.04)^30PV = $50 * [1 - 0.2330] / 0.04 + $1000 / 2.1911PV = $50 * 0.7670 / 0.04 + $1000 / 2.1911PV = $958.75 + $456.52PV = $1173.27Rounding to the nearest dollar, the market value of Colby bonds is $1173.

Question 3

Terminator Bug Company bonds have a 14% coupon rate.Interest is paid semi-annually.The bonds have a par value of $1000 and will mature 10 years from now.Calculate the value of Terminator bonds if investors' required rate of return is 12%.

Accepted Answer

The value of the Terminator bonds can be calculated using the formula for the present value of a bond, which includes the present value of the annuity (coupon payments) and the present value of the par value (lump sum at maturity). The coupon payment is $1000 * 14% / 2 = $70 per period (since interest is paid semi-annually), there are 20 periods (10 years * 2), and the investors' required rate of return is 12% / 2 = 6% per period. Using the present value formulas, the bond's value is calculated as the sum of the present value of the annuity (coupon payments) and the present value of the par value, resulting in approximately $1114.70.

Question 4

A bond that is held to maturity [blank].

Accepted Answer

A bond that is held to maturity will earn the yield to maturity at the time of purchase if the rate at which coupons can be reinvested does not change. However, if the rate at which coupons can be reinvested changes, the bond may earn more or less than its yield to maturity at the time of purchase.

Question 5

What is the value of a bond that has a par value of $1000, a coupon rate of $80 (annually), and matures in 11 years? Assume a required rate of return of 11%, and round your answer to the nearest $10.

Accepted Answer

The present value of the bond can be calculated using the following formula:

PV = [C / (1+r)^1] + [C / (1+r)^2] + ... + [C + Par / (1+r)^n]

where C is the coupon payment, r is the required rate of return, n is the number of periods (years), and Par is the par value of the bond.

Plugging in the values given in the problem:

PV = [80 / (1+0.11)^1] + [80 / (1+0.11)^2] + ... + [80 + 1000 / (1+0.11)^11]
PV = $813.80
Rounding to the nearest $10 gives us answer choice C, $810.

Question 6

Bond ratings directly affect a bond's [blank].

Accepted Answer

Bond ratings directly affect a bond's spread over the Treasury yield because the rating reflects the creditworthiness of the issuer, influencing the interest rate or yield investors require to lend money to the issuer. Higher-rated bonds typically have lower spreads over Treasury yields due to perceived lower risk, while lower-rated bonds require higher spreads to compensate for higher risk.

Question 7

Davis & Davis issued $1000 par value bonds at 102.The bonds pay 12% interest annually and mature in 30 years.The market rate of interest is (round to the nearest hundredth of a percent)[blank].

Accepted Answer

To find the market rate of interest, we need to use the formula for present value of a bond:
PV = C × ((1 - (1 + r)^-n) ÷ r) + M ÷ (1 + r)^n
Where PV is the selling price of the bond (in this case, $1020), C is the coupon payment (in this case, $120), r is the market interest rate (what we're trying to find), n is the number of periods (in this case, 30 years), and M is the maturity value (in this case, $1000).
Plugging in the values yields:
$1020 = $120 x ((1 - (1 + r)^-30) ÷ r) + $1000 ÷ (1 + r)^30
Using trial and error, we find that a market rate of 11.71% results in a present value of $1020. Therefore, the answer is B.

Question 8

MI has a $1000 par value, 30-year bond outstanding that was issued 20 years ago at an annual coupon rate of 10%, paid semi-annually.Market interest rates on similar bonds are 7%.Calculate the bond's price.

Accepted Answer

The bond's price can be calculated using the formula for the present value of its future cash flows, which include the semi-annual interest payments and the principal repayment at maturity. The bond pays a semi-annual interest of ($1000 * 10% / 2) = $50. With 10 years left until maturity, there are 20 periods remaining. The market interest rate for similar bonds is 7% annually, or 3.5% semi-annually. The present value of the interest payments is calculated using the present value of an annuity formula, and the present value of the principal repayment is calculated using the present value of a single sum formula. The bond's price is the sum of these two present values. When calculated, the bond's price comes out to be approximately $1213.19, making option D the correct answer.

Question 9

What is the expected rate of return on a bond that pays a coupon rate of 9% paid semi-annually, has a par value of $1000, matures in five years, and is currently selling for $1071?

Accepted Answer

The expected rate of return on a bond can be calculated using the yield to maturity (YTM) formula, which takes into account the coupon payments, the par value, the current price, and the time to maturity. Given the semi-annual coupon payments, the bond's YTM can be found by solving the bond pricing formula for the interest rate (YTM), which is not straightforward and typically requires financial calculators or software. However, the correct answer, based on the given options and the bond's characteristics (coupon rate, current price above par value, and semi-annual payments), is approximately 7.28%. This reflects the bond's yield given it is selling at a premium (above its par value), which generally indicates the yield (or expected rate of return) will be lower than the coupon rate due to the premium paid upfront.

Question 10

What is the value of a bond that matures in three years, has an annual coupon payment of $110, and a par value of $1000? Assume a required rate of return of 11%, and round your answer to the nearest $10.

Accepted Answer

The answer of What is the value of a bond...

Question 11

What is the yield to maturity of a nine-year bond that pays a coupon rate of 20% per year, has a $1000 par value, and is currently priced at $1407? Assume annual coupon payments.

Accepted Answer

The answer of What is the yield to maturity of...

Question 12

The discount rate used to value a bond is [blank].

Accepted Answer

The discount rate used to value a bond is the market rate of interest, which represents the rate of return that investors demand for lending their money. This rate is not fixed and can vary based on factors such as inflation, economic conditions, and the creditworthiness of the issuer. The coupon interest rate, on the other hand, is the fixed interest rate paid by the issuer to bondholders and does not determine the value of the bond. The issuing company also does not determine the discount rate used to value the bond.

Question 13

All of the following affect the value of a bond except [blank].

Accepted Answer

The recorded value of the firm's assets may affect other financial metrics of the firm, but it does not directly affect the value of a bond. The value of a bond is primarily determined by the required rate of return of investors, the coupon rate of interest, and the maturity date of the bond.

Question 14

Brookline Ltd just sold an issue of 30-year bonds for $1107.20.Investors require a rate of return on these bonds of 7.75%.The bonds pay interest semi-annually.What is the coupon rate of the bonds?

Accepted Answer

The answer of Brookline Ltd just sold an issue of...

Question 15

What is the expected rate of return on a bond that matures in seven years, has a par value of $1000, a coupon rate of 14%, and is currently selling for $911? Assume annual coupon payments.

Accepted Answer

The answer of What is the expected rate of return...

Question 16

The Blackburn Group has recently issued 20-year, unsecured bonds rated BB by Moody's.These bonds yield 443 basis points above the Australian Treasury yield of 2.76%.The yield to maturity on these bonds is [blank].

Accepted Answer

The yield to maturity on these bonds is calculated by adding the yield of the Australian Treasury bonds (2.76%) to the additional yield of the Blackburn Group bonds (443 basis points or 4.43%). Therefore, 2.76% + 4.43% = 7.19%.

Question 17

An ideal time to buy bonds with distant maturities is when the investor expects future yield curves to be [blank].

Accepted Answer

When an investor expects future yield curves to be downward sloping, it indicates that interest rates are expected to decrease over time. Buying long-term bonds before this decrease means locking in higher interest rates now, which can lead to capital appreciation as the yields on existing bonds fall.

Question 18

The yield to maturity on a bond [blank].

Accepted Answer

The yield to maturity is the required rate of return on a bond that would make its present value equal to its price. It takes into consideration the bond's coupon rate, the time to maturity, and the market price of the bond. It is not fixed in the indenture, nor is it necessarily lower for higher-risk bonds, and it may or may not be equal to the coupon interest rate.

Question 19

Caldwell Ltd sold an issue of 30-year, $1000 par value bonds to the public.The bonds carry a 10.85% coupon rate and pay interest semi-annually.It is now 12 years later.The current market rate of interest on the Caldwell bonds is 8.45%.What is the current market price (intrinsic value)of the bonds? Round off to the nearest $1.

Accepted Answer

To calculate the present value of the bond, we need to find the present value factor for each interest payment and the present value factor for the principal payment at maturity. Using the formula:

Present value factor = 1/ (1 + r)n

where r is the market rate of interest and n is the number of periods (in this case, number of semi-annual interest payments or years left until maturity)

For the interest payments, we have: 
Present value factor for first interest payment = 1/ (1 + 0.04225)^24 = 0.3984
Present value factor for second interest payment = 1/ (1 + 0.04225)^23 = 0.4203
Present value factor for third interest payment = 1/ (1 + 0.04225)^22 = 0.4431
.....
Present value factor for fifteenth interest payment = 1/ (1 + 0.04225)^10 = 0.7089

For the principal payment at maturity, we have: 
Present value factor for principal payment = 1/ (1 + 0.04225)^30 = 0.1698

To find the present value of the bond, we need to multiply each present value factor by the corresponding cash flow (which is $1000 for the principal payment and $54.25 for each interest payment). Then we add up all the present values to get the total present value of the bond:

Present value = ($54.25 x 0.3984) + ($54.25 x 0.4203) + ... + ($54.25 x 0.7089) + ($1000 x 0.1698) = $1220

Therefore, the current market price (intrinsic value) of the bond is $1220. The closest answer choice is C.

Question 20

As interest rates, and consequently investors' required rates of return, change over time, the [blank] of outstanding bonds will also change.

Accepted Answer

The price of outstanding bonds will change as interest rates and required rates of return change. This is because the bond's value is based on the present value of its future cash flows, and higher interest rates decrease the present value of these cash flows, resulting in a lower bond price.

Quiz 9: Debt Valuation and Interest Rates