EBK FUNDAMENTALS OF CORPORATE FINANCE
EBK FUNDAMENTALS OF CORPORATE FINANCE
9th Edition
ISBN: 9781260049237
Author: BREALEY
Publisher: MCGRAW HILL BOOK COMPANY
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Chapter 6, Problem 7QP

a)

Summary Introduction

To determine: The rate of return on each bond.

a)

Expert Solution
Check Mark

Explanation of Solution

Computation of rate of return on each bond is as follows:

  1. (a) Bond 1:

Present value(PV1)= coupon amount×1(1+YTM)nYTM+Face value(1+YTM)n=$80×1(1.10)100.10+$1,0001.1010=$877.11

Present value(PV2)= coupon amount×1(1+YTM)nYTM+Face value(1+YTM)n=$80×1(1.10)90.10+$1,0001.109=$884.82

Rate of return=coupon amount+(PV2PV1)PV1=$80+($884.82$877.11)$877.11=0.100or 10%

  1. (b) Bond 2:

Present value(PV1)= coupon amount×1(1+YTM)nYTM+Face value(1+YTM)n=$120×1(1.10)100.10+$1,0001.1010=$1,122.89

Present value(PV1)= coupon amount×1(1+YTM)nYTM+Face value(1+YTM)n=$120×1(1.10)90.10+$1,0001.109=$1,115.18

Rate of return=coupon amount+(PV2PV1)PV1=$120+($1,115.18$1,122.89)$1,122.89=0.100or 10%

Therefore, the rate of return of both bond 1 and bond 2 is 10%.

b)

Summary Introduction

To determine: Whtethr the higher-coupon bond give a higher rate of return over this period.

b)

Expert Solution
Check Mark

Explanation of Solution

The both bonds are giving the same rate of return irrespective of coupon rate of the bond.

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