Question: A newly issued 20-year maturity, zero-coupon bond is issued with a yield to maturity of 8% and face value $1,000. Find the imputed interest income in the first, second, and last year of the bond’s life.
1st Year = $17.15
2nd Year = $ 18.54
Last Year = $74.07
The assumed collection of tax which was not actually collected is known as imputed interest income.
Remaining Maturity (T)
Constant Yield Value (1000/1.08)T
Imputed interest (Increase in constant yield value)
You will be paying $10,000 a year in tuition expenses at the end of the next two years. Bonds currently yield 8%.
An a. What is the present value and duration of your obligation?
b. What maturity zero-coupon bond would immunize your obligation?
c. Suppose you buy a zero-coupon bond with value and duration equal to your obligation. Now suppose that rates immediately increase to 9%. What happens to your net position, that is, to the difference between the value of the bond and that of your tuition obligation? What if rates fall to 7%?
One common goal among fixed-income portfolio managers is to earn high incremental returns on corporate bonds versus government bonds of comparable durations. The approach of some corporate-bond portfolio managers is to find and purchase those corporate bonds having the largest initial spreads over comparable-duration government bonds. John Ames, HFS’s fixed-income manager, believes that a more rigorous approach is required if incremental returns are to be maximized. The following table presents data relating to one set of corporate/government spread relationships (in basis points, bp) present in the market at a given date:
CURRENT AND EXPECTED SPREADS AND DURATIONS
OF HIGH-GRADE CORPORATE BONDS (ONE-YEAR HORIZON)
Initial spread over governments
Expected horizon spread
Expected duration one year from now
a. Recommend purchase of either Aaa or Aa bonds for a one-year investment horizon given a goal of maximizing incremental returns.
b. Ames chooses not to rely solely on initial spread relationships. His analytical framework considers a full range of other key variables likely to impact realized incremental returns, including call provisions and potential changes in interest rates. Describe other variables that Ames should include in his analysis, and explain how each of these could cause realized incremental returns to differ from those indicated by initial spread relationships.
Question: A 30-year maturity, 8% coupon bond paying coupons semi-annually is callable in five years at a call price of $1,100. The bond currently sells at a yield to maturity of 7% (3.5% per half-year):
a. What is the yield to call?
b. What is the yield to call if the call price is only $1,050?
c. What is the yield to call if the call price is $1,100 but the bond can be called in two years instead of five years?
Return to Table 10.1 and calculate both the real and nominal rates of return on the TIPS bond in the second and third years.
Inflation in Year just ended
Coupon Payment + Principal payment
$ 1000 .00
$ 1050. 60
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