You bought one of Great White Shark Repellant Co.’s 9 percent coupon bonds one y

Question

You bought one of Great White Shark Repellant Co.’s 9 percent coupon bonds one year ago for $770. These bonds make annual payments and mature 5 years from now. Suppose you decide to sell your bonds today, when the required return on the bonds is 10 percent. If the inflation rate was 3.1 percent over the past year, what was your total real return on investment?

rev: 09_20_2012

21.19%

34.15%

40.87%

32.63%

32.53%

You bought one of Great White Shark Repellant Co.’s 9 percent coupon bonds one year ago for $770. These bonds make annual payments and mature 5 years from now. Suppose you decide to sell your bonds today, when the required return on the bonds is 10 percent. If the inflation rate was 3.1 percent over the past year, what was your total real return on investment?

Explanation / Answer

First we will find price of thr bond, then nominal return and then real return:

I = 10%

FV = 1,000

N = 5

Coupon Rate = 9%

Coupon Payment = 90

Using Financial Calculator:

PV = 962.09

Nominal Return = (962.09 + 90 - 770)/ 770

Nominal Return = 36.64%

Real Return = (1 + 36.64%)/ (1 + 3.1%) - 1

Real Return = 32.53%

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