principles of fincnace week 7

 

Attached are two example problems and the problme worksheet itself.

   

Complete the following problems. For assistance, you may want to refer to these examples. The Excel spreadsheet shows the calculations for two parts of the problem listed in the Word document. use the weeks 07 problem excel spreadsheet to answer the below issues

  Week 07 Example Problems Week 07 Example Problems.xls.

Required:Download the Week 07 Problems Excel spreadsheetto use in completing your problems.

Assume Mr. Davis can buy either a $10,000 corporate bond yielding 10% or a municipal bond yielding 7%. Assume risk is constant. Assume also that his Federal tax rate will be 28% and his State tax rate 7% and that the municipal bond is exempt from both types of income taxes.Which should he buy, if the yield and tax consequences are the only variables?  A bond has the following terms:Principal amount$1,000Semi-annual interest$50Maturity  10 years(When asked for a % yield, round yields to nearest tenth of a percent, such as 10.1 %.) What is the bond’s price if comparable debt yields 12%?What would be the price if comparable debt yields 12% and the bond matures after 5 years?What are the current yields and yields to maturity if a. and b.?What would be the bond’s price in a. if interest rates declined to 8%? What if the bond matures after 5 years?What are the current yields and yields to maturity in d.?What two generalizations may be drawn from the above price changes?You purchase a high-yield, junk bond for $1,000 that pays $140 annually. After buying the bond, yields decline and you are able to reinvest the interest at only 9 percent. You reinvest all the interest payments. How much will you have when the bond is retired after 12 years? What was the annual return you earned on this investment?Determine the current market prices of the following $1,000 bonds if the comparable rate is 10% and answer the questions.XY 5 ¼ percent, with interest paid annually for 20 years.AB 14 percent, with interest paid annually for 20 years.Which bond has a current yield that exceeds the yield to maturity?Which bond may you expect to be called? Why?If CD, Inc. has a bond with a 5 ¼ percent coupon and a maturity of 20 years but which was lower rated, what would be its price relative to the XY, Inc. bond? Explain.

Week 07 Example Problems

A $1,000 bond has a coupon of 6 percent and matures after 10 years. It pays semi-annual interest.

a. What would be the bond’s price if comparable debt yields 8%?

b. What would be the price if comparable debt yields 8% and the bond matures after 5 years?

c. Why are the prices different in a. and b.?

d. What are the current yields and the yields to maturity of a. and b.?

Solution:

For the solutions to a and b, download the Week 07 Example Problem spreadsheet.

a. $864.10

b. $918.89

c. In both cases, the bond’s price is less than par because the current rate of interest (that available for alternative investments) is greater than the rate paid on the bonds. (8% vs. 6%). However, the amount of the price decline is affected by the term of the bond, and the bond with the longer term experiences the larger price decline because the investors will collect the smaller interest payment for a longer period of time.

d. $60/$864.10 = 6.94% current yield and $60/%919 = 6.53% current yield. The yield to maturity is 8% in both cases.

Adapted from:

Mayo, H. (2007). Basic finance: An introduction to financial institutions, investments & management. United States: Thomson South-Western.

Sheet1

0

)

Rate 4%

Nper 10

pmt $30
fv $1,000
type 0

PV

Nper

10

$30 $30

PV

($918.89)

$1,000 $1,000

0 0

4% 4%

Annual Rate

8%

	a.
	Rate				4%
		Nper	2				0
	pmt				$30
	fv				$1,000
	type
		PV	($864.		10
b.
	($918.89)
d.
Yield to Maturity
20
PMT
($864.10)
FV
Type
Semi-	Annual Rate
	8%

Most bonds have semi-annual coupons (pay interest twice per year), so you will need to divide the interest rate in half and multiply the Nper by two to calculate a one-half year payment.

Sheet2

Sheet3

Problem 1

Please enter your answer here:

Problem 2

0

Rate 6%

Nper

pmt $50
fv $1,000
type 0
PV

Nper

PV

Rate

Annual Return Rate

Nper
Pmt
PV
FV
Type

Annual Return Rate

Rate

4%

Nper

10

pmt $50 $50
fv $1,000 $1,000
type 0 0

PV

Part a.

Rate

6%

Nper

2

0

pmt

$50

fv

$1,000

type

PV

Part b.

10

Part c.

Current yield for a.

Current yield for b.

Yield to maturity

Pmt

FV

Type

Semi-

Annual Return

Semi-Annual Return Rate

Part d.

4%

20

Part e.

Current yield for d. at 10 years

Current yield for d. at 5 years

Part f.

Please enter your answer here:
Use the Rate function to calculate this.

Problem 3

Rate

Nper
Pmt
PV
Type
FV

Nper
Pmt
PV
FV
Type
Annual Return Rate

Annual Return

Add the initial principal ($1,000) to your FV

Solve for total return on your $1,000 cash out flow

Problem 4

Part a.

XY bond AB bond

Rate Nper
Nper

PMT PV
FV FV
Type Type
PV Rate

Part b.
Part c.

Current Yield	Yield to Maturity
	XY bond		AB bond
	PMT
Current Yield XY
Currient Yield AB

Please enter your answer here:
Please enter your answer here:
Please enter your answer here: