Question

Alejandro bought a bond with a face value of $5000. The term of the bond is 2 years. He bought the bond at a 4 percent discount from the face value. The bond pays 4 percent annual interest, and Allejandro will receive four semiannual payments. When the bond is redeemed at maturity, what will be the total return in dollars? What will be the total return on investment?

Answer 1

Alejandro will receive a total return of $5400 when the bond is redeemed at maturity, with a total return on investment of $600.

Step-by-step explanation:

In this case, Alejandro bought the bond at a 4 percent discount from the face value of $5000, so he paid 96% of the face value, which is $5000 x 0.96 = $4800.

The bond pays 4 percent annual interest, which is $5000 x 0.04 = $200 per year. Since there are four semiannual payments, each payment will be $200/2 = $100.

Over the two-year term of the bond, Alejandro will receive a total of four semiannual payments, which amounts to $100 x 4 = $400 in interest payments.

When the bond is redeemed at maturity, Alejandro will receive the face value of $5000 plus the interest payments of $400, for a total return of $5000 + $400 = $5400 in dollars.

The total return on investment is calculated by subtracting the initial investment of $4800 from the total return of $5400, which gives $5400 - $4800 = $600.