Question

An investor has two bonds in his portfolio that both have a face value of $1,000 and pay a 11% annual coupon. Bond L matures in 19 years, while Bond S matures in 1 year.

Assume that there is only one more interest payment to be made on Bond S, at its maturity, and 19 more payments on Bond L.
a. What will the value of the Bond L be if the going interest rate is 6%? Round your answer to two decimal places at the end of the calculations.
b. What will the value of the Bond S be if the going interest rate is 6%? Round your answer to two decimal places at the end of the calculations.
c. What will the value of the Bond L be if the going interest rate is 10%? Round your answer to two decimal places at the end of the calculations.
d. What will the value of the Bond S be if the going interest rate is 10%? Round your answer to two decimal places at the end of the calculations.
e. What will the value of the Bond L be if the going interest rate is 12%? Round your answer to two decimal places at the end of the calculations.
f. What will the value of the Bond S be if the going interest rate is 12%? Round your answer to two decimal places at the end of the calculations.

Answer 1

Bond valuation considers the present value of future payments discounted at the market interest rate, with calculations varying for bonds with different maturity periods like Bond L and Bond S.

Step-by-step explanation:

The valuation of bonds is a financial mathematics concept that involves determining the present value of future cash flows. This is done by discounting the expected payments from the bond using the current market interest rate. The present value calculation is essential in bond valuation to compare the bond's fixed payment terms with the prevailing interest rates.

For Bond L and Bond S with 11% annual coupons and a $1,000 face value, their values will change depending on whether the market interest rate is 6%, 10%, or 12%. To calculate the values:

1. For each interest rate scenario, calculate the present value of the remaining coupon payments.
2. Add the present value of the bond's face value (which is repaid at maturity).

Calculations need to be separately done for Bond L and Bond S due to their different maturities.