Chapter 7: Questions and Applications 8, 14, and 15;
Problems 1 and 2
8. Variable-Rate Bonds Are variable-rate bonds attractive to
investors who expect interest rates to decrease? Explain. Would a firm that
needs to borrow funds consider issuing variable-rate bonds if it expects that
interest rates will decrease? Explain
14. Bond Downgrade Explain how the downgrading of bonds for
a particular corporation affects the prices of those bonds, the return to
investors that currently hold these bonds, and the potential return to other
investors who may invest in the bonds in the near future.
15. Junk Bonds Merrito, Inc., is a large U.S. firm that
issued bonds several years ago. Its bond ratings declined over time and, about
a year ago, the bonds were rated in the junk bond classification. Never- the less,
investors were buying the bonds in the secondary market because of the
attractive yield they offered. Last
week, Merrito defaulted on its bonds, and the prices of most other junk bonds
declined abruptly on the same day. Explain why news of Merrito’s financial
problems could cause the prices of junk bonds issued by other firms to
decrease, even when those firms had no business relationships with Merrito.
Explain why the prices of those junk bonds with less liquidity declined more
than those with a high degree of liquidity.
1. Inflation-Indexed Treasury Bond An inflation- indexed
Treasury bond has a par value of $1,000 and a coupon rate of 6 percent. An
investor purchases this bond and holds it for one year. During the year, the
consumer price index increases by 1 percent every six months. What are the
total interest payments the investor will receive during the year?
2. Inflation-Indexed Treasury Bond Assume that the U.S.
economy experienced deflation during the year and that the consumer price index
decreased by 1 percent in the first six months of the year and by 2 percent
during the second six months of the year. If an investor had pur- chased
inflation-indexed Treasury bonds with a par value of $10,000 and a coupon rate
of 5 percent, how much would she have received in interest during the year?
Chapter 8: Questions and Applications 1 and 10; Problems 1,
3, and 12
Bond Investment Decision Based on your forecast
of interest rates, would you recommend that investors purchase bonds today?
10. Inflation Effects Assume that inflation is expected to
decline in the near future. How could this affect future bond prices? Would you
recommend that financial institutions increase or decrease their concentration
in long-term bonds based on this expectation? Explain
1. Bond Valuation Assume the following information for an
existing bond that provides annual coupon payments:
a. What is the
present value of the bond?
b. If the
required rate of return by investors were 14 percent instead of 11 percent,
what would be the present value of the bond?
c. If the
required rate of return by investors were 9 percent, what would be the present
value of the bond?
3. Valuing a Zero-Coupon Bond Assume that you require a 14
percent return on a zero-coupon bond with a par value of $1,000 and six years
to maturity. What is the price you should be willing to pay for this bond?
12. Bond Valuation You are interested in buying a $1,000 par
value bond with 10 years to maturity and an 8 percent coupon rate that is paid
semiannually. How much should you be willing to pay for the bond if the investor’s
required rate of return is 10 percent?