Question

3. a 10-year, 7%, $100,000 bond is sold by richardson inc. the bond pays interest semi-annually. the market rate of interest for comparable bonds is 8%. at what price does the bond sell?

Answer 1

When interest rates rise, the value of existing bonds decreases, making them less attractive compared to bonds with higher interest rates in the market.

Step-by-step explanation:

When interest rates rise, the value of existing bonds decreases. In this case, the bond originally issued at an interest rate of 6% would become less attractive compared to other bonds in the market now offering a higher interest rate of 9%. To make the bond more appealing, the seller would need to lower its price below its face value of $10,000.

Answer 2

When interest rates rise, the value of existing bonds decreases because they offer lower returns compared to new bonds with higher interest rates. Therefore, you would expect to pay less than $10,000 for the bond. The actual price you would be willing to pay can be calculated using the formula:

`\[ \text{Actual Price} = \frac{\text{Face Value}}{(1 + \text{Market Interest Rate})^{\text{Years Remaining}}} \]`

In this case, the actual price would be $9,174.31.

Step-by-step explanation:

In this case, the bond is being sold one year before its maturity and the market interest rate has increased from 6% to 9%. When interest rates rise, the value of existing bonds decreases because they offer lower returns compared to new bonds with higher interest rates. Therefore, you would expect to pay less than $10,000 for the bond.

To calculate the actual price you would be willing to pay, you can use the formula:

`\[ \text{Actual Price} = \frac{\text{Face Value}}{(1 + \text{Market Interest Rate})^{\text{Years Remaining}}} \]`

In this case, the face value is $10,000, the market interest rate is 9%, and there is one year remaining. Plugging these values into the formula, the actual price would be:

`\[ \text{Actual Price} = (10,000)/((1 + 0.09)^1) = (10,000)/(1.09) \approx 9,174.31 \]`