Question

The value of any financial asset is the select value of all its annual interest payments and its value of the cash flows the asset is expected to produce. For a bond with fixed annual coupons, its value is equal to the present maturity value as shown in the equation below: Bond's value=V₁-- Int. (1+14) Int. (1+1)² Int. M + (1+14) (1+₁) Int. M (1+ra) (1+r) We could use the valuation equation shown above to solve for a bond's value; however, it is more efficient to use a financial calculator. Simply enter N as years to maturity, I/YR as the going annual interest rate, PMT as the annual coupon payment (calculated as the annual coupon interest rate times the face value of the bond), and FV as the stated maturity value. Once those inputs are entered in your financial calculator, you can solve for PV, the value of the bond. Remember that the signs for PMT and FV should be the same, so PV will have an opposite sign. Typically, you would enter PMT and FV as positive numbers, so PV would be shown as a negative value. The negative sign means that you are purchasing the bond, so the purchase price of the bond is paid out of your funds (thus the negative sign) and is received by the issuing firm (a positive flow to the firm). Note that we calculated the bond's value assuming coupon interest payments were paid annually; however, most bonds pay interest on a semiannual basis. Therefore, to calculate the value of a semiannual bond you must make the following changes: N should reflect the number of interest payment periods so multiply years to maturity times 2, 1/YR should reflect the periodic going rate of interest so divide the going annual interest rate by 2, and PMT should reflect the periodic interest payment so divide the annual interest payment by 2. For fixed-rate bonds it's important to realize that the value of the bond has a(n) Select relationship to the level of interest rates. If interest rates rise, then the value of the bond however, if interest rates fall, then the value of the bond Select A Select bond is one that sells below its par value. This situation occurs whenever the going rate of interest is above the coupon rate. Over time its value will [Select approaching its maturity value at maturity: A Select bond is one that sells above its par For foxed-rate bonds it's important to realize that the value of the bond has a(n) Select relationship to the level of interest rates. If interest rates rise, then the value of the bond Showever, if interest rated fall, then the value of the bond select A Select bond is one that sells below its par value. This situation occurs whenever the going rate of interest is above the coupon rate. Over time its value will Select approaching its maturity value at maturity. A Select bond is one that sells above its par value. This situation occurs whenever the going rate of interest is below the coupon rate. Over time its value will Select approaching its maturity value at maturity. A par value bond is one that sells at par; the bond's coupon rate is equal to the going rate of interest. Normally, the coupon rate is set at the going market rate the day a bond is issued so it sells at par initially. Quantitative Problem: Potter Industries has a bond issue outstanding with an annual coupon of 6% and a 10-year maturity. The par value of the bond is $1,000, If the going annual interest rate is 7.4%, what is the value of the bond? Do not round intermediate calculations. Round your answer to the nearest cent. S Quantitative Problem: Potter Industries has a bond issue outstanding with a 6% coupon rate with semiannual payments of $30, and a 10-year maturity. The par value of the bond is $1,000. If the going annual interest rate is 7.4%, what is the value of the bond? Do not round intermediate calculations. Round your answer to the nearest cent

Answer 1

A bond is a financial asset that represents a loan agreement between a borrower and an investor. Its value is influenced by factors such as its face value, coupon rate, and market interest rates. When interest rates rise, the value of a bond decreases, while when interest rates fall, the value of a bond increases. In the case of Potter Industries' bond, the value can be calculated using the bond valuation formula with adjusted inputs for semiannual payments.

Step-by-step explanation:

A bond is a financial asset that represents an agreement between a borrower and an investor. It has a face value, which is the amount that the borrower agrees to repay to the investor at maturity, and a coupon rate or interest rate, which is the rate at which the borrower pays interest on the bond. The value of a bond is determined by its present value, which is the most that a buyer would be willing to pay for the bond. This value is influenced by various factors, including the bond's face value, interest rate, and market interest rates.

When interest rates rise, the value of an existing bond decreases because the fixed coupon rate becomes less attractive compared to the higher market interest rates. On the other hand, when interest rates fall, the value of an existing bond increases because the fixed coupon rate becomes more attractive than the lower market interest rates. A bond that sells below its par value is called a discount bond, and its value tends to increase over time towards its par value at maturity. Conversely, a bond that sells above its par value is called a premium bond, and its value tends to decrease over time towards its par value at maturity.

In the case of Potter Industries' bond, we can calculate its value by using the bond valuation formula. The bond has a 6% coupon rate with semiannual payments of $30, a 10-year maturity, and a par value of $1,000. The going annual interest rate is 7.4%. To calculate the bond's value, we need to adjust the inputs for the semiannual payments. We multiply the number of years to maturity by 2, divide the going annual interest rate by 2 for the periodic going rate of interest, and divide the annual interest payment by 2 for the periodic interest payment. Using a financial calculator, we can now input the adjusted values and solve for the present value of the bond, which, in this case, is $844.16.