Final answer:
The reasonable estimate for the interest rate on new debt issued by a company with a current 8% coupon and 7% yield to maturity would likely be around the current yield to maturity of 7%, subject to company creditworthiness and current market conditions.
Step-by-step explanation:
To estimate the interest rate (rd) on new debt issuance for a company with outstanding bonds having a face value of $1,000, an 8% coupon, and a 7% yield to maturity, we need to consider several factors in the current market. The company's existing 8% coupon rate, which is higher than the 7% yield to maturity, suggests that the market interest rates may have decreased since the bonds were issued. Therefore, the company's new debt is likely to have an interest rate close to or somewhat higher than the current yield to maturity, depending on the company's creditworthiness and market conditions.
Given that the bond market adjusts prices to align yields with current interest rates, if the company were to issue new debt in a similar market environment, the reasonable estimate for the interest rate on that new debt would be around the current yield to maturity, which is 7%. However, this is subject to change based on various factors such as the company's changed credit situation, prevailing economic conditions, and shifts in investor demand for such debt.
As interest rates fluctuate, the secondary market adjusts the price of bonds to reflect the new environment. Newly issued bonds will, therefore, bear an interest rate that aligns with the prevailing yield to maturity in the market. It's critical to note that the future interest rates could differ from 7% if market conditions change significantly.