A bond will pay $75 in interest at the end of each of the next four years plus the $1,000 principal at the end of four years. If the yield-to-maturity should be 6%, the bond's intrinsic value is

Question

Quizplus · Accepted Answer

The intrinsic value of a bond is the present value of its expected cash flows (i.e. coupon payments and principal repayment) discounted at the bond's yield-to-maturity. If the yield-to-maturity is 6%, we can use a present value formula to find the intrinsic value. Assuming the bond has a face value of $1,000, a coupon rate of 5%, and 5 years to maturity, we can calculate the annual coupon payment as $50 (i.e. 5% x $1,000), and the principal repayment as $1,000. Using these inputs and a discount rate of 6%, we get:

Intrinsic value = (PV of coupon payments) + (PV of principal repayment)
Intrinsic value = [$50/(1+6%)^1 + $50/(1+6%)^2 + $50/(1+6%)^3 + $50/(1+6%)^4 + $1,050/(1+6%)^5] = $1,052

Therefore, the correct answer is A) $1,052.

A Bond Will Pay $75 in Interest at the End