Question

Andrew Industries is contemplating issuing a ​-year bond with a coupon rate of ​(annual coupon​ payments) and a face value of . Andrew believes it can get a rating of A from Standard​ & Poor's.​ However, due to recent financial difficulties at the​ company, Standard​ & Poor's is warning that it may downgrade Andrew​ Industries' bonds to BBB. Yields on​ A-rated, long-term bonds are currently ​, and yields on​ BBB-rated bonds are . a. What is the price of the bond if Andrew Industries maintains the A rating for the bond​ issue? b. What will be the price of the bond if it is​ downgraded?

Answer 1

Answer:

The numbers are missing, so I looked for a similar question to fill in the blanks:    

Andrew Industries is contemplating issuing a 30​-year bond with a coupon rate of 7.13% ​(annual coupon​ payments) and a face value of $1,000. Andrew believes it can get a rating of A from Standard​& Poor's.​ However, due to recent financial difficulties at the​ company, Standard​ & Poor's is warning that it may downgrade Andrew​ Industries' bonds to BBB. Yields on​ A-rated, long-term bonds are currently 6.43%​, and yields on​ BBB-rated bonds are 6.84%.

a. What is the price of the bond if Andrew Industries maintains the A rating for the bond​ issue?

if the YTM is 6.43%, then the market price will be:

0.0643 = {71.30 + [(1,000 - M)/30]}/ [(1,000 + M)/2]

0.0643 x [(1,000 + M)/2] = 71.30 + [(1,000 - M)/30]

0.0643 x (500 + 0.5M) = 71.30 + 33.33 - 0.03333M

32.15 + 0.03215M = 104.63 - 0.03333M

0.06548M = 72.48

M = 72.48 / 0.06548 = $1,106.90

b. What will be the price of the bond if it is​ downgraded?

if the YTM is 6.84%, then the market price will be:

0.0684 = {71.30 + [(1,000 - M)/30]}/ [(1,000 + M)/2]

0.0684 x [(1,000 + M)/2] = 71.30 + [(1,000 - M)/30]

0.0684 x (500 + 0.5M) = 71.30 + 33.33 - 0.03333M

34.20 + 0.0342M = 104.63 - 0.03333M

0.06753M = 70.43

M = 70.43 / 0.06753 = $1,042.94