Question 2:

(a)A bond has a par value of $1,000, a time to maturity of 15 years, and a coupon rate of 7.7% with interest paid annually. If the current market price is $770, what will be the approximate capital gain yield of this bond over the next year if its yield to maturity remains unchanged? (2 Marks)

(b)A 8-year bond of a firm in severe financial distress has a coupon rate of 12% and sells for $950. The firm is currently renegotiating the debt, and it appears that the lenders will allow the firm to reduce coupon payments on the bond to one-half the originally contracted amount. The firm can handle these lower payments. What are the stated yields to maturity of the bonds before the renegotiation? What are the expected yields to maturity of the bonds after the renegotiation? The bond makes its coupon payments annually. (3 Marks)