A 30-year-maturity bond has a 7% coupon rate, paid annually. It sells today for $867.42. A 20-year-maturity bond has a 6.5% coupon rate, also paid annually. It sells today for $879.50.

A bond market analyst forecasts that in five years, 25-year-maturity bonds will sell at yields to maturity of 8% and 15-year-maturity bonds will sell at yields of 7.5%. Because the yield curve is upward-sloping, the analyst believes that coupons will be invested in short-term securities at a rate of 6%.

a. Calculate the (annualized) expected rate of return of the 30-year bond over the 5-year period.

b. What is the (annualized) expected return of the 20-year bond?

 P-963