A Bond With An Annual Coupon Of 70 And Originally Sold At Pa

Question

A Bond With An Annual Coupon Of 70 And Originally Sold At Par For 1 A bond with an annual coupon of $70 and originally sold at par for $1,000. The current market interest rate (yield to maturity) is 8%. This bond will sell at _______. Assuming no change in market interest rates, the bond will present the holder with capital ________ as it matures. . A. premium; gains B. discount; gains C. premium; losses D. discount; losses Given the above bond details, we analyze the bond's present value compared to its par value to determine whether it sells at a premium, discount, or at par. Since the bond's coupon rate is 7% ($70 coupon on a $1,000 bond), and the current market yield is 8%, which exceeds the coupon rate, the bond will sell at a discount. Over time, as the bond approaches maturity, the price will converge to face value, resulting in the bondholder experiencing capital gains if purchased below par, but at maturity, the capital gains diminish because the bond’s price moves toward face value. Therefore, the correct answer is B: discount; gains.

Dr. Jack HW Helper · Accepted Answer

Introduction Investing in bonds requires understanding how different factors influence bond prices and yields. Key concepts include the relationship between coupon rates, market interest rates, and bond prices, as well as the implications for investors over the bond's life cycle. This paper explores fundamental bond valuation principles, interest rate risk, and how market conditions impact bond pricing and returns. Bond Price Determination and Yield Relationship A bond's price relative to its face value hinges on the interplay between its coupon rate and prevailing market interest rates. When a bond's coupon rate (7%, in our case, since $70 is 7% of $1,000) is lower than the current market yield (8%), investors will only purchase the bond at a price lower than face value to compensate for the lower interest income—thus, the bond sells at a discount (B). Conversely, if the coupon rate exceeds the market rate, a premium would occur. As market interest rates remain constant, the bond's price moves toward its face value as it approaches maturity, realizing capital gains if purchased at discount, akin to the capital gains described in the question. Interest Rate Risk and Capital Gains or Losses Interest rate risk impacts bondholders through fluctuations in market rates, leading to potential capital gains or losses upon sale before maturity. If anticipated interest rates decline, bonds with higher coupons will generally sell at premium, resulting in capital gains over time. Conversely, rising market rates cause bond prices to fall, leading to capital losses at sale. At maturity, the bond's price converges to the face value, securing the bondholder a capital gain or loss depending on the initial purchase price. Implication of No Change in Market Rates Assuming market interest rates stay unchanged, the bond's price trend toward face value becomes predictable. As the bond matures, the price moves closer to face value, generating capital gains if purchased at a discount, thus

A Bond With An Annual Coupon Of 70 And Originally Sold At Pa

A Bond With An Annual Coupon Of 70 And Originally Sold At Par For 1

Sample Paper For Above instruction

Introduction

Bond Price Determination and Yield Relationship

Interest Rate Risk and Capital Gains or Losses

Implication of No Change in Market Rates

Conclusion

References