Sam owns a 12-year, 7% bond with a make-whole call provision that is being called today. Interest is paid semiannually. What is the current call price if the applicable discount rate is 6.50% and the make-whole call provision applies?

Question

Quizplus · Accepted Answer

To calculate the make-whole call price, we need to find the present value of all remaining cash flows discounted at the applicable discount rate until maturity, plus the call premium.

Using a financial calculator or Excel, we can determine that the present value factor for a 6.5% discount rate and 24 semiannual periods is 16.2463.

The remaining semi-annual coupon payments can be calculated as follows: 
$35 (annual coupon rate) / 2 = $17.50 (semiannual coupon rate)

$17.50 x 12 semiannual periods = $210

To calculate the make-whole call premium, we need to find the present value of the remaining semi-annual coupon payments from the call date until maturity discounted at the applicable discount rate plus an additional 0.5% (50 basis points) for the make-whole call provision.

Using the same present value factor of 16.2463 and a semi-annual coupon payment of $17.50, we can determine that the make-whole call premium is:

$210 / 16.2463 = $12.93

Therefore, the current call price is: 
Current call price = Present value of remaining cash flows + Call premium 
Current call price = $1,028.98 + $12.93 
Current call price = $1,041.22

Therefore, the best answer is C, $1,041.22.

Sam Owns a 12-Year, 7% Bond with a Make-Whole Call