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Corporate Finance eBook

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Chapter8: Interest Rates and Bond Valuation

Questions and Problems

1. Valuing Bonds What is the price of a 10-year, zero coupon bond paying $1,000 at maturity if the YTM is: BASIC (Questions 1– 12) a. 5 percent? b. 10 percent? c. 15 percent? 2. Valuing Bonds Microhard has issued a bond with the following characteristics: Par: $1,000 Time to maturity: 25 years Coupon rate: 7 percent Semiannual payments Calculate the price of this bond if the YTM is: a. 7 percent b. 9 percent c. 5 percent 3. Bond Yields Watters Umbrella Corp. issued 12-year bonds 2 years ago at a coupon rate of 7.8 percent. The bonds make semiannual payments. If these bonds currently sell for 105 percent of par value, what is the YTM? 4. Coupon Rates Rhiannon Corporation has bonds on the market with 13.5 years to maturity, a YTM of 7.6 percent, and a current price of $1,175. The bonds make semiannual payments. What must the coupon rate be on these bonds? 5. Valuing Bonds Even though most corporate bonds in the United States make coupon payments semiannually, bonds issued elsewhere often have annual coupon payments. Suppose a German company issues a bond with a par value of €1,000, 15 years to maturity, and a coupon rate of 8.4 percent paid annually. If the yield to maturity is 7.6 percent, what is the current price of the bond? 6. Bond Yields A Japanese company has a bond outstanding that sells for 87 percent of its ¥100,000 par value. The bond has a coupon rate of 5.4 percent paid annually and matures in 21 years. What is the yield to maturity of this bond? 7. Calculating Real Rates of Return If Treasury bills are currently paying 5 percent and the inflation rate is 3.9 percent, what is the approximate real rate of interest? The exact real rate? 8. Inflation and Nominal Returns Suppose the real rate is 2.5 percent and the inflation rate is 4.7 percent. What rate would you expect to see on a Treasury bill? 9. Nominal and Real Returns An investment offers a 17 percent total return over the coming year. Alan Wingspan thinks the total real return on this investment will be only 11 percent. What does Alan believe the inflation rate will be over the next year? 10. Nominal versus Real Returns Say you own an asset that had a total return last year of 14.1 percent. If the inflation rate last year was 6.8 percent, what was your real return? 11. Using Treasury Quotes Locate the Treasury bond in Figure 8.4 maturing in November 2027. What is its coupon rate? What is its bid price? What was the previous day's asked price? 12. Using Treasury Quotes Locate the Treasury bond in Figure 8.4 maturing in November 2024. Is this a premium or a discount bond? What is its current yield? What is its yield to maturity? What is the bid-ask spread? INTERMEDIATE (Questions 13– 22) 13. Bond Price Movements Miller Corporation has a premium bond making semiannual payments. The bond pays a 9 percent coupon, has a YTM of 7 percent, and has 13 years to maturity. The Modigliani Company has a discount bond making semiannual payments. This bond pays a 7 percent coupon, has a YTM of 9 percent, and also has 13 years to maturity. If interest rates remain unchanged, what do you expect the price of these bonds to be 1 year from now? In 3 years? In 8 years? In 12 years? In 13 years? What's going on here? Illustrate your answers by graphing bond prices versus time to maturity. 14. Interest Rate Risk Laurel, Inc., and Hardy Corp. both have 8 percent coupon bonds outstanding, with semiannual interest payments, and both are priced at par value. The Laurel, Inc., bond has 2 years to maturity, whereas the Hardy Corp. bond has 15 years to maturity. If interest rates suddenly rise by 2 percent, what is the percentage change in the price of these bonds? If interest rates were to suddenly fall by 2 percent instead, what would the percentage change in the price of these bonds be then? Illustrate your answers by graphing bond...