Answer:
By finding the present value of the bond's expected coupon payments and par value at the bond's required rate of return.
Explanation:
A bond is a form of loan. Bondholders receive a fixed coupon payment at a predetermined rate.
A bond can sell at a premium or discount to its par value or equal to the par value.
The price of a bond is determined by determining the present value of par value and the expected cash flows which are coupon payments.
The higher the coupon payments, the more expensive the price of the bond would be.
Also, the lower the required rate of return, the more expensive the price of the bond would be.
For example, a bond has a par value of 1000 and would pay coupon payment of $100 for 3 years. The required rate of return is 5%. The price of the bond can be determined by calculating the present value of the cash flows
Cash flow in year 1 and 2 = $100
Cash flow in year 3 = $1100
i = 5%
pv = 1136.16
To find the PV using a financial calculator:
1. Input the cash flow values by pressing the CF button. After inputting the value, press enter and the arrow facing a downward direction.
2. after inputting all the cash flows, press the NPV button, input the value for I, press enter and the arrow facing a downward direction.
3. Press compute
