4. Bond valuation 3 The process of bond valuation is based on the fundamental concept that the current price of a security can be determined by calculating the present value of the cash flows that the security will generate in the future. There is a consistent and predictable relationship between a bond's coupon rate, its par value, a bondholder's required return, and the bond's resulting Intrinsic value. Trading at a discount, trading at a premum, and trading at par refer to particular relationships between a band's intrinsic value and its par value. This also results from the relationship between a bond's coupon rate and a bondholder's required rate of return. Remember, a bond's coupon rate partially determines the interest based return that a bond will reflects the return that a bondholder would like to receive from a given investment. pay, and a bondholder's required return The mathematics of bond valuation imply a predictable relationship between the band's coupon rate, the bondholder's required return the bond's par value, and its intrinsic value. These relationships can be summarized as follows: ictory When the bond's coupon rate is equal to the bondholder's required return, the band't intrinsic value will equal its par value, and the bond will trade . When the bond's coupon rate is greater than the bondholder's required return the band's intrinsic value will exceed its par value and the bond will trade at a premium . When the bond's coupon rate is less than the bondholder's required return the band's intrinsic value will be less than its par value and the hond will trade atacount For example, assume Oliver wants to earn a return of 10,50% and is offered the opportunity to purchase a $1,000 par value bond that pays a 8.75% coupon rate (distributed semiannually) with three years remaining to maturity. The following formula can be used to compute the bond's intrinsic value: Intrinsic Value - + (10) 0100cm (10 + (303" + Complete the following table by identifying the appropriate corresponding variables used in the equation. Unknown Variable Name Variable Value A B $1,000 Semiannual required return Based on this equation and the data, it is value less than $1,000 to expect that Oliver's potential bond investment is currently exhibiting an intrinsic $1,000 Semiannual required return Based on this equation and the data, it is value less than $1,000 to expect that Oliver's potential bond investment is currently exhibiting an intrinsic unreasonable Now, consider the situation in which Olive reasonable return of 11.75%, but the bond being considered for purchase offers a coupon rate of 8.75%. Again, assume that the bond pay mommtrest payments and has three years to maturity. If you round the bond's intrinsic value to the nearest whole dollar, then its intrinsic value of (rounded to the nearest whole dollar) is Ps par value, so that the bond is Given your computation and conclusions, which of the following statements is true? A bond should trade at a par when the coupon rate is greater than Oliver's required retur. When the coupon rate is greater than Ollver's required return, the band's intrinsic value will be less than its par value. When the coupon rate is greater than Oliver's required return, the band should trade at a discount When the coupon rate is greater than Olliver's required return the bond should trade at a premium BURU Semiannual required return Based on this equation and the data, it is value less than $1,000 to expect that Oliver's potential bond Investment is currently exhibiting an intrinsic Now, consider the situation in which Oliver wants to com a return of 11.759, but the bond being considered for purchase offers a coupon rate of 8.75%. Again, assume that the bond pays semiannual interest payments and has three years to maturity. If you round the bond's intrinsic value to the nearest whole dollar, then its intrinsic value of (rounded to the nearest whole dollar) is its par value, so that the bond is $1,111 Given your computation and conclusions, which $648 owing statements is true? A bond should trade at a par when t $1,204 rate is greater than Oliver's required retum. When the coupon rate is greater tha5926 required return, the tond's intrinsic value will be less than its par value. When the coupon rate is greater than Oliver's required return the band should trade at a discount when the coupon rate is greater than Ollver's required return the bond should trade at a premium Based on this equation and the data, it is value less than $1,000. to expect that Oliver's potential bond investment is currently exhibiting an intrinsic Now, consider the situation in which Oliver wants to earn a return of 11.75%, but the bond being considered for purchase offers a coupon rate of 8.75%. Again, assume that the bond pays semiannual interest payments and has three years to maturity. If you round the band's intrinsic value to the nearest whole dollar, then its intrinsic value of (rounded to the nearest whole dollar) is its par value, so that the bond is less than Given your computation and conclusions, which of the following statements is true? greater than A bord should trade ata par when the coupon rate is greater than Oliver's required return. equal to When the coupon rate is greater than Oliver's required retum, the bond's intrinsic value will be less than its par value. When the coupon rate is greater than Oliver's required return the bond should trade at a discount When the coupon rate is greater than Oliver's required return the bond should trade at a premium tory TO wy Based on this equation and the data, it is value less than $1,000 to expect that Olliver's potential bond investment is currently exhibiting an intrinsic Now, consider the situation in which Oliver wants to earn a return of 1.75%, but the bond being considered for purchase offers a coupon rate of 8.75. Again, sume that the bond pays semiannual interest payments and has three years to maturity. If you round the bond intrinsic value to the nearest whole dollar, then its intrinsic value of (rounded to the nearest whole dollar) is its par value, so that the bond als trading at a discount od condutions, which of the following statements is true? trading at a premium ade at a par when the coupon rate is greater than Olliver's required retum. trading at par rate is greater than Oliver's required return, the bonds intrinsic value will be less than its par value. When the coupon rate is greater than Oliver's required return the band should trade at a discount. ductory Given your computation and conclusions, which of the following statements is true? O A bond should trade at a par when the coupon rate is greater than Oliver's required return. When the coupon rate is greater than Oliver's required return, the bond's intrinsic value will be less than its par value. When the coupon rate is greater than Oliver's required return, the bond should trade at a discount. When the coupon rate is greater than Oliver's required return, the bond should trade at a premium