Question

An annual payment bond has a 9 percent required return. Interest rates are projected to fall 25 basis points. The bond's duration is 12 years. What is the predicted price change? Multiple Choice 1.95 percent 33.33 percent −1.95 percent −2.75 percent 2.75 percent

Answer 1

Answer:

The answer is:

Explanation:

The price of a bond is the discounted value of all future cash flows anticipated. In this case the bond has a 9% required return (i) or yield. This yield is expected to fall by 25 basis points or 0.25%. Basis points are used to describe changes in the yield of a bond in hundredths. Therefore 25 basis points is equivalent to 25/10000 or 0.25%. The bond price and bond yield have an inverse relationship, the lower the bond price the higher the yield and the higher the bond price the lower the yield. The present value calculation is as follows:

Present value = Future Value/(1 + i)^t where t is the time period

Required return: 9%/0.09

New return: 8.9775% ((1 - 0.0025) * 9%)/0.089775

If face value of the bond was $100, the new coupon would be $8.9775

Answer 2

Answer:

2.75 percent

Explanation:

A payment bond is usually used by contractors to assure their business partners that the surety bond on the goods and services provided by the subcontractors will be paid. The payment bond is often used with the performance bonds. Therefore, the estimated price change for the payment bond is (-12)*(-0.0025/1.09) = (-12)*(-0.0022936) = 0.0275 = 2.75%