Question 5 (Callable Bond) Canton Industries Limited (CIL) is considering raising funds over a short period. In its last management meeting, the finance director, Ben Lo (Ben), suggested CIL to issue perpetual bonds with a face value of $1,000 each with a coupon rate of 8.1% paid in annually. The current market interest rate is 8%. Ben estimates a 0.3 probability that next year's interest rate will increase to 10%, and a 0.7 probability that it will fall to 6%. (a) Assuming that CIL adopts Ben's suggestion, evaluate the current market value of the perpetual bond given the probabilities of interest rate change. (b) The chairperson, Joe Man (Joe), decides to add a call provision into the contract and make the bonds callable in one year. Determine what the new coupon rate of the callable bonds should be if the bonds are issued at par. Assume that the bonds will be called if the interest rates fall and the call premium is equal to twice the annual coupon. (c) Evaluate the value of the call provision.

Question 5 (Callable Bond) Canton Industries Limited (CIL) is considering raising funds over a short period. In its last management meeting, the finance director, Ben Lo (Ben), suggested CIL to issue perpetual bonds with a face value of $1,000 each with a coupon rate of 8.1% paid in annually. The current market interest rate is 8%. Ben estimates a 0.3 probability that next year's interest rate will increase to 10%, and a 0.7 probability that it will fall to 6%. (a) Assuming that CIL adopts Ben's suggestion, evaluate the current market value of the perpetual bond given the probabilities of interest rate change. (b) The chairperson, Joe Man (Joe), decides to add a call provision into the contract and make the bonds callable in one year. Determine what the new coupon rate of the callable bonds should be if the bonds are issued at par. Assume that the bonds will be called if the interest rates fall and the call premium is equal to twice the annual coupon. (c) Evaluate the value of the call provision. Question 5 (Callable Bond) Canton Industries Limited (CIL) is considering raising funds over a short period. In its last management meeting, the finance director, Ben Lo (Ben), suggested CIL to issue perpetual bonds with a face value of $1,000 each with a coupon rate of 8.1% paid in annually. The current market interest rate is 8%. Ben estimates a 0.3 probability that next year's interest rate will increase to 10%, and a 0.7 probability that it will fall to 6%. (a) Assuming that CIL adopts Ben's suggestion, evaluate the current market value of the perpetual bond given the probabilities of interest rate change. (b) The chairperson, Joe Man (Joe), decides to add a call provision into the contract and make the bonds callable in one year. Determine what the new coupon rate of the callable bonds should be if the bonds are issued at par. Assume that the bonds will be called if the interest rates fall and the call premium is equal to twice the annual coupon. (c) Evaluate the value of the call provision. Question 5 (Callable Bond) Canton Industries Limited (CIL) is considering raising funds over a short period. In its last management meeting, the finance director, Ben Lo (Ben), suggested CIL to issue perpetual bonds with a face value of $1,000 each with a coupon rate of 8.1% paid in annually. The current market interest rate is 8%. Ben estimates a 0.3 probability that next year's interest rate will increase to 10%, and a 0.7 probability that it will fall to 6%. (a) Assuming that CIL adopts Ben's suggestion, evaluate the current market value of the perpetual bond given the probabilities of interest rate change. (b) The chairperson, Joe Man (Joe), decides to add a call provision into the contract and make the bonds callable in one year. Determine what the new coupon rate of the callable bonds should be if the bonds are issued at par. Assume that the bonds will be called if the interest rates fall and the call premium is equal to twice the annual coupon. (c) Evaluate the value of the call provision. Question 5 (Callable Bond) Canton Industries Limited (CIL) is considering raising funds over a short period. In its last management meeting, the finance director, Ben Lo (Ben), suggested CIL to issue perpetual bonds with a face value of $1,000 each with a coupon rate of 8.1% paid in annually. The current market interest rate is 8%. Ben estimates a 0.3 probability that next year's interest rate will increase to 10%, and a 0.7 probability that it will fall to 6%. (a) Assuming that CIL adopts Ben's suggestion, evaluate the current market value of the perpetual bond given the probabilities of interest rate change. (b) The chairperson, Joe Man (Joe), decides to add a call provision into the contract and make the bonds callable in one year. Determine what the new coupon rate of the callable bonds should be if the bonds are issued at par. Assume that the bonds will be called if the interest rates fall and the call premium is equal to twice the annual coupon. (c) Evaluate the value of the call provision