QUESTION TWO a) The fair value of a bond is based on the present value of expected future cash flows. Using a hypothetical example, determine the value of a bond whose maturity is 5 years. b) Bond prices fluctuate inversely with market interest rates. Cognisant of this fact, companies issue bonds of various features. Justify why a company may prefer to issues one type of bond to another.
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QUESTION TWO
a) The fair value of a bond is based on the
b)
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- The time value of money is used in calculating bond prices because: Group of answer choices A - The company might choose to repay the bonds prior to their maturity date B - Bond investors receive future payments and purchase bonds with current dollars C - The amount to be repaid at maturity will change as market rates change D - Cash interest payments to bondholders will change as market rates changeFrom page 9-2 of the VLN, what is the first thing you want to identify when approaching a bond problem? Group of answer choices A. Annual bond or semiannual bond B. Whether the market rate is different from the stated rate. C. The cash flows provided by the bond. D. The company's debt to equity ratio.Acme Chemical, Inc. is a major manufacturer of chemical products for the agricultural ndustry, including pesticides, herbicides and other compounds. Due to a number of law suits elated to toxic wastes, Acme Chemical has recently experienced a market re-evaluation of its common stock. The firm also has a bond issue outstanding with 10 years to maturity and an annual coupon rate of 5 percent, with interest paid semi annually. The required nominal market annual interest rate on this bond has now risen to 10 percent due to the high risk level associated vith this firm. The bonds have a par or face value of $1,000. 1. Label each of the variables that you would use to determine the value of this bond in the market today: N (time periods until maturity) PMT (periodic interest payment) I per (periodic market interest rate) EV (future value to be received when the bond matures) = 2. Based on the variables that you have identified in Question #1, what is the market value. today (the present…
- 4. Convertible bonds:a. Allow the security holder to convert the bond into cash at any time during the life of the bond.b. Allow the security holder to convert the bond into products or services that the company sells.c. Allow the security holder to convert the bond to another security, usually equity, according to some pre-specified terms.d. Allow the security holder to convert the bond into another bond with a higher coupon rate if interest rateson bonds increase before the convertible bond matures.e. None of the above.5. The same firm issues two different bonds. The bonds are identical in every respect except for their time tomaturity. Bond A matures in 7 years and Bond B matures in 5 years. Which bond has a higher price?a. Bond Ab. Bond Bc. Both have the same value.d. One must know YTM and coupon rate to answer the question.e. One must know the compounding frequency to answer the question. 6. When the yield to maturity (YTM) for a particular bond is greater than its coupon…2. When a company amortizes a premium, interest expense is: Group of answer choices cannot be determined greater than the cash payment for interest the same as the cash payment for interest less than the cash payment for interest 3. Which method of amortizing a discount will generate the same interest expense each year over the life of a bond? Group of answer choices Coupon amortization Market amortization Straight-line amortization Effective amortization 4. A bond has a face value of $100,000 and sold for $98,000. How much of the discount will be amortized in the first year if the company uses straight-line amortization and the bond has a 10 year life? Group of answer choices $200 $2,000 $9,800 $10,000 5. A bond has a face value of $100,000 and sold for $98,000. The stated interest rate is 5%. The market interest rate is 6%. The bond has a ten year life. How much will interest expense be in the first year of the…Question 2 a) What are the main characteristics of a bond? Provide examples of different types of bonds in terms of coupons and maturity. b) Explain the difference between "coupon rate" and "yield to maturity", Show, using examples, how changes in the coupon rate and yield to maturity affects the bond price. c) You are asked to put a value on a bond which promises eight annual coupon payments of £50 and will repay its face value of £1000 at the end of eight years. You observe that other similar bonds have yields to maturity of 9 per cent. i) i) How much is this bond worth? (" You are offered the bond for a price of £755.5. What yield to maturity does this represent? d. You believe that next year XYZ plc will pay a dividend of £2 on its common stock Thereafter you expect dividends to grow at a rate of 4% a year in perpetuity. If you require a return of 12% on your investment. i. How much should you be prepared to pay for the stock? ii. Assuming that the expected stock price at the end…
- Which of the following is FALSE regarding bonds? Long term bonds have greater interest rate risk than do short term bonds. A bond indenture describes the terms of the bond issue. Bonds represent ownership in the company. if interest rates in the market go up, the present value of existing bonds goes down. A bond issuer is legally required to make the interest payments and repay the par value at maturity. Previous Page Next Page Page 12 of 304. Bond valuation The process of bond valuation is based on the fundamental concept that the current price of a security can be determined by calculating the present value of the cash flows that the security will generate in the future. There is a consistent and predictable relationship between a bond’s coupon rate, its par value, a bondholder’s required return, and the bond’s resulting intrinsic value. Trading at a discount, trading at a premium, and trading at par refer to particular relationships between a bond’s intrinsic value and its par value. This also results from the relationship between a bond’s coupon rate and a bondholder’s required rate of return. Remember, a bond’s coupon rate partially determines the interest-based return that a bondwill pay, and a bondholder’s required return reflects the return that a bondholderis obligated to receive from a given investment. The mathematics of bond valuation imply a predictable relationship between the bond’s…4. Bond valuation The process of bond valuation is based on the fundamental concept that the current price of a security can be determined by calculating the present value of the cash flows that the security will generate in the future. There is a consistent and predictable relationship between a bond's coupon rate, its par value, a bondholder's required return, and the bond's resulting intrinsic value. Trading at a discount, trading at a premium, and trading at par refer to particular relationships between a bond's intrinsic value and its par value. This also results from the relationship between a bond's coupon rate and a bondholder's required rate of return. Remember, a bond's coupon rate partially determines the interest-based return that a bond i reflects the return that a bondholder to receive from a given investment. pay, and a bondholder's required return The mathematics of bond valuation imply a predictable relationship between the bond's coupon rate, the bondholder's required…
- 6. Bonds that mature in installments are called term bonds. 7. A conversion feature may be added to bonds to make them more attractive to bond buyers. 8. The rate used to determine the amount of cash interest the borrower pays is called the stated rate. 9. Bond prices are usually quoted as a percentage of the face value of the bond. 10. The present value of a bond is the value at which it should sell in the marketplace. Instructions Identify each statement as true or false. If false, indicate how to correct the statement.Which type of bonds offer a higher yield? Callable bonds Noncallable bonds Answer the following question based on your understanding of interest rate risk and reinvestment risk. True or False: Assuming all else is equal, the shorter a bond's maturity, the more its price will change in response to a given change in interest rates. False TrueNominal interest rate of a corporate bond includes all of the following components EXCEPT _____. Group of answer choices a. real risk-free interest rate b. expected inflation c. unexpected inflation d. credit risk premium
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