Asked by Carolyn Lemon-Lewis on Jul 08, 2024
Verified
Five years ago, Jackson Corporation issued twenty-five-year 10% annual coupon bonds with a $1,000 face value each. Since then, interest rates in general have risen, and the yield to maturity on the Thompson Tarps bonds is now 12%. Given this information, what is the price of the bonds today?
A) $1,230
B) $851
C) $1,218
D) $880
E) $1,440
Annual Coupon Bonds
Bonds that pay interest to the holder on an annual basis, where the interest rate is specified as a percentage of the bond's face value.
Interest Rates
Interest rates represent the cost of borrowing money, expressed as a percentage of the loan amount, paid by the borrower to the lender for the use of funds.
- Figure out the monetary values and yields of bonds under different settings.
Verified Answer
ND
Naree DachruchaJul 14, 2024
Final Answer :
B
Explanation :
The price of a bond is the present value of its future cash flows, which include the annual coupon payments and the face value at maturity. Since interest rates have risen from 10% to 12%, the price of the bond will decrease below its face value to offer a yield that matches the current market rate. The correct calculation involves discounting the future cash flows (annual coupons of $100 for the remaining 20 years and the $1,000 face value) at the new yield to maturity of 12%. The result of this calculation is closest to $851, making option B the correct answer.
Learning Objectives
- Figure out the monetary values and yields of bonds under different settings.