a. Several years ago, Castles in the Sand Inc. issued bonds at face value of $1,

Question

a. Several years ago, Castles in the Sand Inc. issued bonds at face value of $1,000 at a yield to maturity of 5.0%. Now, with 5 years left until the maturity of the bonds, the company has run into hard times and the yield to maturity on the bonds has increased to 10%. What is the price of the bond now? (Assume semiannual coupon payments.) (Do not round intermediate calculations. Round your answer to 2 decimal places.) b. Suppose that investors believe that Castles can make good on the promised coupon payments but that the company will go bankrupt when the bond matures and the principal comes due. The expectation is that investors will receive only 90% of face value at maturity. If they buy the bond today, what yield to maturity do they expect to receive? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places.)

Explanation / Answer

a. Number of years = 10 or 20 semiannual payments

Yield to maturity = 5%

Coupons = 5/2% of 1000 = 25

FV = 1000

Market value of bond = 891.76

b. Number of years = 5 or 10 semi annual installments

Coupons = 5/2% of 1000 = 25

FV = 90% of 1000 = 900

PV = 810.46

Yield = 4% for semi annual period

Annual yield = 2*4 %= 8%

the market value can be derived at using financial calculator or PV function in excel

=PV (yield, time,coupon, FV,0)

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