Question: Please give detailed me the solution of (a),(b),(c) of this problem. (AMS 318 book: Mathematical Interest Theory Second Edition)
Suppose that the Johnson family has the option of purchasing two bonds.
• Bond A is a $4000 10% 10 year bond paying annual coupons with redemption value $2000, which can be purchased at a premium for $3000.
• Bond B is a $4000 1% 10 year bond paying annual coupons with redemption value $6000, which can be purchased at a discount for $2000.
Suppose further that each bond is callable and has a lockout period of 5 years, after which a call option can be placed by the issuer at the end of years {6, 7, 8, 9} for call premium of $2000
(Problem 4). Discuss what considerations the investor should consider when investing in either bond. That is:
(a) Which bond has a higher APY?
(b) Is the bond with the higher APY more or less liquid?
(c) Which bond would you (as a financial advisor) suggest they purchase and why? (This last part is subjective but you must explain your reasoning. For example, a bond with a higher APY is better assuming no liquidity preference. However, if the investor is not liquid at the start then the outlay of such a large amount of money in an illiquid investment may be financially straining or "risky".)
Remember The Johnson family are not interest theory experts and therefore the report should be readable and understandable to someone who has not read the textbook for this class. (This means don't write a report full of annuity symbols and complex calculations. The investors only want the summary statistics of an investment such as the APY and what the cash flow looks like.)