Question
Tom purchased a bond today, the bond was issued a year ago with a 25-year maturity and has a yield to maturity (YTM) today of
Tom purchased a bond today, the bond was issued a year ago with a 25-year maturity and has a yield to maturity (YTM) today of 8%. The coupon rate is 10% and coupons are paid annually. The par value is $1,000. Tom is going to hold this bond for 3 years and sell the bond at the end of year 3. The bond's yield to maturity will change to 9% at the time when Tom sells the bond. Assume coupons can be reinvested in short term securities over the next three years at an annual rate of 11%.
which of the following regarding Toms annual holding period return (HPR) of this bond investment is correct?
I. Toms annual HPR is 5.64% and there is a capital loss from selling the bond at year 3
II. Toms annual HPR will be lower than 8% due to a capital loss from selling the bond at year 3
III. Toms annual HPR will be higher than 8% due to the higher reinvestment rate of 10%
IV. Toms annual HPR is 5.59% because gains from the 10% reinvestment rate will be largely offset by the capital loss from selling the bond at year 3
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