An investor is contemplating the purchase of a 20-year bond that pays $50 interest every six months. The investor plans to hold the bond only for 10 years, at which time she will sell it in the marketplace. She requires a 12 percent annual return but believes the market will require only an 8 percent return when she sells the bond 10 years from now. Assuming she is a rational investor, how much should she be willing to pay for the bond today? (Round the answer to two decimal places.)

Question

Quizplus · Accepted Answer

The investor should calculate the present value of the bond's cash flows, which include the semi-annual interest payments and the sale price of the bond in 10 years. The sale price is determined by the market's required return of 8% at that time. The present value of these cash flows, discounted at her required return of 12%, gives the price she should be willing to pay today.

An Investor Is Contemplating the Purchase of a 20-Year Bond