Question
You may have seen time value of money problems before, but they form the foundation of many areas of finance including financial planning, capital budgeting,
You may have seen time value of money problems before, but they form the foundation of many areas of finance including financial planning, capital budgeting, and valuation. It is essential to understand not just how to perform the calculations but also why they work and how changes to the variables such as time, payment frequency, or interest rate affect the results. One of the first types of securities that you might use time value of money to value are bonds. Bonds make up a large part of the financing source for companies and the investment portfolio of individuals and institutional funds.
1. One year ago, Langford Co. issued 14-year bonds with a face value of $1,000 and a coupon rate of 6.9%. The bonds make semi-annual payments. If the yield to maturity (YTM) on these bonds is 5.2%, what is the current bond price? (10 marks)
2. Two years ago, Braemar Corp. issued 12-year bonds with a face value of $1,000 and a coupon rate of 7.1%. The bonds make semi-annual payments. If these bonds currently sell for 105% of par value, what is the YTM? (10 marks)
3. What is the difference between the term structure of interest rates and the yield curve? Is the yield to maturity (YTM) on a bond the same thing as the required return? Is YTM the same thing as the coupon rate? Suppose today a 10% coupon bond sells at par. In 2 years from now, the required return on the same bond is 8%. What is the coupon rate on the bond then? What is the YTM? (10 marks)
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