Answer:
The annualized rate if return is 5.64%
Explanation:
In calculating the annualized expected return on the bond, I set up a table in excel in order to calculate the sum of cash flows that would been received from the bond in five years coupled with the fact that the inflow from the bond on yearly basis can be reinvested at 6.1% on yearly basis.
Note that the coupon payment received at end of the year can be reinvested for 4 years, the one on year can be reinvested for 3 years and so on.
Then the amount of the inflow in year 5 is the sum of the coupon and the market price of the bond calculated as $870.94
We can then compute annualized rate of return from the below fv formula:
FV=PV*(1+r)^N
where FV is $ 1,147.71
PV is the cost of bond at ($872.42)
r is the rate of return that is unknown
N is 5 years period
$ 1,147.71 =872.42*(1+r)^5
$ 1,147.71 /$872.42=(1+r)^5
divide the reciprocal of each side by 5
($1,147.71/$872.42)^(1/5)=1+r
r= ($1,147.71/$872.42)^(1/5)-1
=5.64%
Kindly find attached.
