FCS5510 Unit07 Sample Homework

1.A $1,000 bond has a coupon rate of 5 percent and matures after ten years.
What is the current price of the bond if the comparable rate if interest is
10 percent? Interest is assumed to be paid annually.

Current price of a bond is the present value of all future payments, both
interest and principal.

PB = PMT *PVFS(i, n) + FV*PVF(i,n)

= PMT*(1-1/(1+i)^n)/i + FV*(1/(1+i)^n)
= 50*(1-1/(1+10%)^10)/10% + 1,000*(1/(1+10%)^10)
= 50*6.144567+1,000*0.385543
= 692.77

2. If a $1,000 bond with a 9 percent coupon and a maturity date of 10 years

is selling for $900, (a) What is the current yield? (b) What is the yield
to maturity? Interest is assumed to be paid annually.

a.Current yield = Annual interst payment/price of the bond =90/900=10%

b. $900 = $90*(1-1/(1+i)^10)/i + $1,000*(1/(1+i)^10)

Try different numbers of i until the left-hand side the equation equals to
the right-hand side of the equation. Solution: i=10.67%.

Note if this is a zero-coupon bond, there is no interest payment so the

first part of the equation ($90*(1-1/(1+i)^10)/i )would be zero. The
problem is thus simplified.

3. If a preferred stock pays an annual dividend of $10 and investors can

earn 10 percent on alternative and comparable investments, what is the
maximum price that should be paid for this stock? Note: Preferred stock
valuation is the same as bond valuation. An assumption is made that
preferred stock is perpetual with no maturity date.

Price of the preferred stock = PMT/i=$10/.1 = $100

4. A ten-year bond with a 5 percent coupon will sell for $1,000 when
interest rates are 6 percent. What is the duration of this bond?

Y=the yield to maturity = 6%

C=annual coupon rate =5%
N=number of years to maturity=10

The duration for the bond:

D = (1+0.06)/0.06 – [(1+0.06) + 10 (0.05 – 0.06)]/{ 0.05[(1 + 0.06)^10 -1]
+ 0.06} = 8.0225