EBK CORPORATE FINANCE
4th Edition
ISBN: 9780134202785
Author: DeMarzo
Publisher: VST
expand_more
expand_more
format_list_bulleted
Concept explainers
Videos
Textbook Question
Chapter 6, Problem 13P
Consider the following bonds:
| Bond | Coupon Rate (annual payments) | Maturity (years) |
| A | 0% | 15 |
| B | 0% | 10 |
| C | 4% | 15 |
| D | 8% | 10 |
- a. What is the percentage change in the price of each bond if its yield to maturity falls from 6% to 5%?
- b. Which of the bonds A-D is most sensitive to a 1% drop in interest rates from 6% to 5% and why? Which bond is least sensitive? Provide an intuitive explanation for your answer.
Expert Solution & Answer
Want to see the full answer?
Check out a sample textbook solution
Students have asked these similar questions
Consider the following bonds.
Bond
A
B
с
D
Coupon Rate (annual payments)
0.0%
0.0%
3.5%
7.8%
Maturity (years)
10
15
15
10
Which of the bonds A to D is most sensitive to a 1% drop in interest rates from 6.7% to 5.7%? Which bond is least sensitive?
Provide an intuitive explanation for your answer.
Calculating the risk premium on bonds
The text presents a formula where
(1+1) = (1-p)(1 +i+x) + p(0)
where i is the nominal interest rate on a riskless bond
x is the risk premium
p is the probability of default (bankruptcy)
If the probability of bankruptcy is zero, the rate of interest on the risky bond is
When the nominal interest rate for a risky borrower is 8% and the nominal policy rate of interest is 3%, the probability of bankruptcy is %. (Round your response to two decimal places.)
When the probability of bankruptcy is 6% and the nominal policy rate of interest is 4%, the nominal interest rate for a risky borrower is %. (Round your response to two decimal places.)
When the probability of bankruptcy is 11% and the nominal policy rate of interest is 4%, the nominal interest rate for a risky borrower is %. (Round your response to two decimal places.)
The formula assumes that payment upon default is zero. In fact, it is often positive.
How would you change the formula in this case?…
Consider the following bonds: (Click on the following icon in order to copy its contents into a spreadsheet.)
Coupon Rate (annual payments)
Maturity (years)
13
0%
0%
12
2%
13
8%
12
Bond
A
B
C
D
a. What is the percentage change in the price of each bond if its yield to maturity falls from 8% to 7%?
b. Which of the bonds A through D is the most sensitive to a 1% drop in interest rates from 8% to 7% and why? Which bond is the least sensitive? Provide an intuitive explanation for your answer.
Note: Assume annual compounding.
a. What is the percentage change in the price of each bond if its yield to maturity falls from 8% to 7%?
The percentage change in bond A is 5.47%. (Round to two decimal places.)
Chapter 6 Solutions
EBK CORPORATE FINANCE
Ch. 6.1 - What is the relationship between a bonds price and...Ch. 6.1 - The risk-free interest rate for a maturity of...Ch. 6.2 - If a bonds yield to maturity does not change, how...Ch. 6.2 - Prob. 2CCCh. 6.2 - How does a bonds coupon rate affect its...Ch. 6.3 - How do you calculate the price of a coupon bond...Ch. 6.3 - How do you calculate the price of a coupon bond...Ch. 6.3 - Explain why two coupon bonds with the same...Ch. 6.4 - There are two reasons the yield of a defaultable...Ch. 6.4 - What is a bond rating?
Ch. 6.5 - Why do sovereign debt yields differ across...Ch. 6.5 - What options does a country have if it decides it...Ch. 6 - A 30-year bond with a face value of 1000 has a...Ch. 6 - Assume that a bond will make payments every six...Ch. 6 - The following table summarizes prices of various...Ch. 6 - Suppose the current zero-coupon yield curve for...Ch. 6 - Prob. 5PCh. 6 - Prob. 6PCh. 6 - Suppose a five-year, 1000 bond with annual coupons...Ch. 6 - Prob. 8PCh. 6 - Explain why the yield of a bond that trades at a...Ch. 6 - Prob. 10PCh. 6 - Prob. 11PCh. 6 - Consider the following bonds: Bond Coupon Rate...Ch. 6 - Prob. 14PCh. 6 - Prob. 17PCh. 6 - Prob. 18PCh. 6 - Prob. 19PCh. 6 - Prob. 20PCh. 6 - Prob. 22PCh. 6 - Prob. 23PCh. 6 - Suppose you are given the following information...Ch. 6 - Prob. 26PCh. 6 - Grumman Corporation has issued zero-coupon...Ch. 6 - The following table summarizes the yields to...Ch. 6 - Prob. 30PCh. 6 - Prob. 31PCh. 6 - A BBB-rated corporate bond has a yield to maturity...Ch. 6 - Prob. 33PCh. 6 - Prob. 34PCh. 6 - Prob. 35P
Additional Business Textbook Solutions
Find more solutions based on key concepts
The exchange rate, potential risk, transfer pricing, tax law differences and strategies are the items affects t...
Principles of Managerial Finance (14th Edition) (Pearson Series in Finance)
Assume Emerson Electric’s managers expect earnings to grow at 1 percent above the historical growth rate. How d...
Foundations of Finance (9th Edition) (Pearson Series in Finance)
Impact on SML and required rate of return Introduction: The security market line (SML) is a line, which shows t...
Gitman: Principl Manageri Finance_15 (15th Edition) (What's New in Finance)
(Cost of equity) In the spring of 2018, the Brille Corporation was involved in issuing new common stock at a ma...
Foundations Of Finance
Quick ratio and current ratio (Learning Objective 7) 1520 min. Consider the following data: COMPANY A B C D Cas...
Financial Accounting, Student Value Edition (5th Edition)
The Warm and Toasty Heating Oil Company used to deliver heating oil by sending trucks that printed out a ticket...
Essentials of MIS (12th Edition)
Knowledge Booster
Learn more about
Need a deep-dive on the concept behind this application? Look no further. Learn more about this topic, finance and related others by exploring similar questions and additional content below.Similar questions
- The following information about bonds A, B, C, and D are given. Assume that bond prices admit noarbitrage opportunities. What is the convexity of Bond D?Cash Flow at the end ofBond Price Year 1 Year 2 Year 3A 91 100 0 0B 86 0 100 0C 78 0 0 100D ? 5 5 105arrow_forwardExplain what you see from the pricing calculations. How do the two bonds differ? Bond C Bond Price = PV(rate,nper,pmt,fv) Given: n = Period which takes values from 0 to the nth period = 0,1,2,3 & 4 Cn = Coupon payment in the nth period = 10%*$1,000 = $100 YTM = interest rate or required yield = 9.6% P = Par Value of the bond = $1,000 Bond Z Bond Price = PV(rate,nper,pmt,fv) Given: n = Period which takes values from 0 to the nth period = 0,1,2,3 & 4 Cn = Coupon payment in the nth period = 0%*$1,000 = $0.00 YTM = interest rate or required yield = 9.6% P = Par Value of the bond = $1,000 years Bond A Bond Z 4 $1,012.79 $693.04 3 $1,010.02 $759.57 2 $1,006.98 $832.49 1 $1,003.65 $912.41 0 $1,000.00 $1,000.00arrow_forwardIf the interest rates on 1-, 5-, 20-, and 30-year bonds are (respectively)4%, 5%, 6%, and 7%, then how would you describe the yield curve?How would you describe it if the rates were reversed?arrow_forward
- The rate of return on a bond held to its maturity date is called the bond’syield to maturity. If interest rates in the economy rise after a bond hasbeen issued, what will happen to the bond’s price and to its YTM? Doesthe length of time to maturity affect the extent to which a given change ininterest rates will affect the bond’s price? Why or why not?arrow_forwardConsider the following figure which shows the relationship between a three-year bond’s price (vertical axis) and the passage of time (measured in years - horizontal axis). Which of the following statements are consistent with the figure above? Group of answer choices A. This bond pays a coupon of $6. B. This pattern of prices is consistent with a bond whose yield to maturity is below the bond’s coupon rate. C. None of the other statements are correct. D. This bond pays coupons on a quarterly basis.arrow_forwardThe 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 changearrow_forward
- Suppose that y is the yield on a perpetual government bond that pays interest at the rate of $1 per annum. Assume that y is expressed with simply com- pounding, that interest is paid annually on the bond, and that y follows the process dy = a(y0 −y)dt + oydWt, where a, y0, and o are positive constants and dWt is a Wiener process. (a) What is the process followed by the bond price? (b) What is the expected instantaneous return (including interest and capital gains) to the holder of the bond?arrow_forward不 Which of the bonds A to D is most sensitive to a 1%drop in interest rates from Consider the following bonds: 6.5% to 5.5% Which bond is least sensitive? Bond Data table is most sensitive. (Select from the drop-down menu.) (Click on the following icon in order to copy its contents into a spreadsheet.) Bond A BC D Coupon Rate (annual payments) 0.0% 0.0% 4.3% 7.7% Print Done Maturity (years) 10 15 15 10arrow_forward1. Consider two bonds with a similar credit rating and pay the same coupon rate per annum. The terms to maturity for Bond A and Bond B are 5 years and 10 years respectively. If inflation rate is expected to increase in the near future and therefore leads to an increase in interest rate, what is the effect on the bond prices? Which bond is likely to experience a larger effect due to the increase in interest rate? Briefly explain your answer.arrow_forward
- How do investors calculate the net present value of a bond? If a bond's coupon payment is C, the interest rate is R, and the bond's coupon payment is made in each period for T years at which time the original principal, P, is repaid, then the bond's present discounted value (PDV) is C A. PDV = + (1 + R) (1 + R? (1 + R)T B. PDV = C(1 + R) + C(1 + R)2 - + C(1 + R)T + P(1 + R)T + C P OC. PDV = - + R R2 RT RT C D. PDV = P + C C (1 + R) (1+R)2 (1 + R)T C E. PDV = + + + + (1 + R) (1+ R)2 (1 + R)T (1 + R)T If the interest rate is 9 percent, what is the present value of a perpetuity that pays $50,000 each year, forever? The perpetuity's value is $ (Enter a numeric response rounded to two decimal places.)arrow_forwardWhich one of the following statements concerning debt instruments is correct? O A) A 25-year bond with a coupon rate of 9% and 1 year to maturity has more interest rate risk than a 10-year bond with a 9% coupon issued by the same firm with 1 year to maturity. O B) The coupon rate and yield of an outstanding long-term bond will change over time as economic factors change. O C) For long-term bonds, price sensitivity to a given change in interest rates is greater the longer the maturity of the bond. O D) A bond with 1 year to maturity would have more interest rate risk than a bond with 15 years to maturityarrow_forwardSee attached question: Thank you.arrow_forward
arrow_back_ios
SEE MORE QUESTIONS
arrow_forward_ios
Recommended textbooks for you
Intermediate Financial Management (MindTap Course...FinanceISBN:9781337395083Author:Eugene F. Brigham, Phillip R. DavesPublisher:Cengage Learning
Intermediate Financial Management (MindTap Course...
Finance
ISBN:9781337395083
Author:Eugene F. Brigham, Phillip R. Daves
Publisher:Cengage Learning
Bond Valuation - A Quick Review; Author: Pat Obi;https://www.youtube.com/watch?v=xDWTPmqcWW4;License: Standard Youtube License