Problem 1. [25 points]
A newly issued bond pays its coupons once annually. Its coupon rate is 5%, its maturity is 20 years, and its yield to maturity is 6%.
Find the price of the bond.
After one year, the bond is selling at a yield to maturity of 5.5%. Find the holding period return if you sell the bond after one year.
If you sell the bond after one year, what taxes will you owe? Assume that the tax rate on interest income is 40% and the tax rate on capital gains income is 30%.
What is the after-tax holding period return on the bond?
Problem 2. [25 points]
A 30-year maturity, 8% coupon bond paying coupons semiannually is callable in five years at a call price of $1,020. The bond currently sells for $1,059.34.
What are the yield to maturity and the yield to call of the bond?
What would be the yield to call annually if the call price were only $970?
What would be the yield to call annually if the call price were $1,020, but the bond could be called in two years instead of five years?
Sketch the price of the bond as a function of the interest rate.
Problem 3: Bond Research. [50 points]
Consider the following tradeable bonds.
Company Ticker Bond ID Par Value Coupon Maturity
Apple AAPL US037833CX61 $1,000.00 3.000% Jun 20, 2027
Disney DIS US254687FP66 $1,000.00 3.700% Mar 23, 2027
Tesla TSLA US88160RAE18 $1,000.00 5.300% Aug 15, 2025
McDonald’s MCD US58013MES98 $1,000.00 3.250% Jun 10, 2024
For the bonds listed, find the current bid and ask prices.
Based on the stock you were assigned at the beginning of the semester, study the appropriate bond.
Research the details of the bond for example, how often and at what dates is the bonds paying coupons; is the bond international or domestic; what is the size of the issue; is the bond fixed or floating rate; is the bond convertible, callable, or puttable.
What is the credit rating of the issuer of the bond? How is this credit rating reflected in the yield of the bond? If possible, quantify the credit spread.
To do this, follow these steps. First, approximate the maturity of the bond in years. Then find the yield of the US Treasury note with the same maturity. If necessary, take the average of two bonds. For example, if your bond matures in 4 years, use the 3-year and 5-year Treasuries.
