1. Suppose you're given with the following information for some assets; a 10-year 2.0%-coupon bond of semi-annual coupon payment with face value as $1,000, a common stock of $3.60 expected dividend with 2.5% growth rate currently. Both bond and common stock are issued by Company M&M. Answer the following questions.
a) Suppose the yield to maturity (that is, the discount rate) for the bond is 10%, what is the present value of this coupon bond?
Price of bond = Present value of future cash flows
= Semi annual Coupon x PVIFA @ 5% for 20 half years + Redemption Value x PVIF @ 5% for 20 half year
= $10 x {(1/1.05)^1 + (1/1.05)^2 + (1/1.05)^3 . . . . . . . (1/1.05)^20} + $1000 x (1/1.05)^20
= $10 x 12.462 + $1000 x 0.376889
= $501.51
b) Is it a discount bond? Why?
c) What is the bond's fair value if the discount rate is 2.0%?
1) $1000
2) $ 894.30 3) $798.32 4) $1036.09 5) none of the above.
Price of bond = Present value of future cash flows
= Semi annual Coupon x PVIFA @ 5% for 20 half years + Redemption Value x PVIF @ 5% for 20 half year
= $10 x {(1/1.01)^1 + (1/1.01)^2 + (1/1.01)^3 . . . . . . . (1/1.01)^20} + $1000 x (1/1.01)^20
= $10 x 12.462 + $1000 x 0.376889
= $1000.00
d) Suppose the bond is in fact, callable. That is, the firm may repurchase it with the call price as $918 and the bond is callable at the end of year 4, what is the yield to call for this bond if the current bond price is $789? (That is, the discount rate for the bond if you choose to be called. Use IRR function in EXCEL for this question).
Answer choice listed below:
1) 11%
2) 9.27%
3) 7.464%
4) 6.20%
5) more than 12%