Question

You buy a long-term maturity bond with a 10% annual coupon rate (c) bond at par value, $1,000 (p0). however, you sell the bond one year later for $1,100 (p1). what is your rate of return (r) over this one year holding period?

Answer 1

The rate of return on a bond that was bought at par value ($1,000) and sold a year later for $1,100, with a 10% annual coupon, is 20%. The return includes both the capital gain and the interest received over the holding period.

Step-by-step explanation:

The student's question relates to the calculation of the rate of return on a bond investment over a one-year holding period. To calculate the rate of return, you take the sum of the capital gain (or loss) and the interest received, and divide it by the initial investment.

In this case, the bond was bought for $1,000 and sold for $1,100 a year later, creating a capital gain of $100. Additionally, the investor received $100 as an annual coupon payment (10% of $1,000). Therefore, the total return is the sum of the capital gain and the interest payment, which is $100 + $100 = $200. To find the rate of return, divide the total return by the initial investment:

Rate of Return (r) = (Capital Gain + Interest Payment) / Initial Investment = ($100 + $100) / $1,000 = $200 / $1,000 = 0.20 or 20%