Final answer:
Scott, the bondholder on record, would typically have the gross income from the coupon bond. The value of a bond changes inversely with interest rates; hence, a bond will be worth less if interest rates rise and more if rates fall. For a two-year bond at an 8% interest rate, if the discount rate rises to 11%, the present value of the bond's future cash flows decreases.
Step-by-step explanation:
Scott purchased a $10,000 coupon bond with $1,000 coupons payable every December. The question of who has gross income depends on the specific tax laws that apply, but generally, the person who holds the bond when the coupon is due (in this case, December) is typically considered to have the gross income. This means that Scott, assuming he is the bondholder on record and entitled to that payment, would have the gross income.
Regarding the valuation of bonds, if interest rates change, the value of the bond will also change inversely. If interest rates rise after the bond has been purchased, newly issued bonds would pay a higher interest rate, and existing bonds with lower coupon rates, such as Scott's, would generally be worth less than their face value on the secondary market. Conversely, if interest rates fall, the bond with the higher coupon rate would be worth more.
Calculation for the Two-Year Bond
Let's consider a simple two-year bond. It has an initial face value of $3,000 at an 8% interest rate. This bond would pay $240 in interest annually. When we calculate the present value (PV) at the same discount rate of 8%, the valuation of the bond remains equal to its face value, as the discount rate matches the interest rate. However, if the discount rate rises to 11%, the present value of the future cash flows would decrease because the payments are discounted at a higher rate.