Your client has been offered a 5-year, $1,000 par value bond with a 10 percent coupon. Interest on this bond is paid quarterly. If your client is to earn a nominal rate of return of 12 percent, compounded quarterly, how much should she pay for the bond?

Question

Quizplus · Accepted Answer

To determine the price your client should pay for the bond, we need to use the present value formula:

PV = C * [1 - 1 / (1 + r/n)^nt] / (r/n) + F / (1 + r/n)^nt

Where: 
PV = Present Value
C = Coupon payment
r = Nominal rate of return
n = Number of compounding periods per year
t = Number of years
F = Par value

Plugging in the given information, we get:

PV = 25 * [1 - 1 / (1 + 0.03)^20] / (0.03) + 1000 / (1 + 0.03)^20
PV = $926.37

Therefore, your client should pay $926.37 for the bond in order to earn a nominal rate of return of 12 percent, compounded quarterly. The best choice is B.

Your Client Has Been Offered a 5-Year, $1,000 Par Value