The Importance of Bonds Yields and Prices Over Time & Their Valuations
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Question:
A company with the name "Unique Motors Company" sells an issue of bonds on the first of January, 2001. These bonds are purchased at $960 per unit (i.e., the bonds had been issued at 96 percent of par), have an even 12 percent coupon rate payable semi-annually, and mature in two decades, that is on the last day of 2020.
1) Say a person buys that bond on the date of issuing at the price of issuing and predicts that they will keep hold of that bonds up until its date of maturity, the last day of 2020. What would their average annual rate of return be for this particular investment?
2) The going rate of interest on similar bonds falls to 8 percent over the two years following the issuing of these bonds. What is the new selling price?
3) Now, six years after the original date of issuing for these bonds, the interest rate on similar bonds has peaked at 14 percent. What is the new selling price today?
4) Finally, eight years on from the date the bonds were originally issued, they are selling at a market price of $925. What now if the bond's yield to maturity? Please also find the current yield and capital gains yield.
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The solution discusses the importance of bonds yields and prices over time and their valuations.
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1) If you bought the bond on the issue date at the issue price and expected to hold it until it matures on December 31, 2020, what would be your average annual rate of return on the investment?
Bond Price 96.00
Par Value 100.00
Coupon rate 12%
Coupon Payment 2 times a year
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