Chapter 61 Bill Yield Assume An Investor Purchased A Six Mon

Chapter 61t Bill Yieldassume An Investor Purchased A Six Month T Bill

Assume an investor purchased a six-month T-bill with a $10,000 par value for $9,000 and sold it 90 days later for $9,100. What is the yield?

Stanford Corporation arranged a repurchase agreement in which it purchased securities for $4.9 million and will sell the securities back for $5 million in 40 days. What is the yield (or repo rate) to Stanford Corporation?

A U.S. investor obtains British pounds when the pound is worth $1.50 and invests in a one-year money market security that provides a yield of 5 percent (in pounds). At the end of one year, the investor converts the proceeds from the investment back to dollars at the prevailing spot rate of $1.52 per pound. Calculate the effective yield.

Determine how the annualized yield of a T-bill would be affected if the purchase price were lower. Explain the logic of this relationship.

Determine how the annualized yield of a T-bill would be affected if the selling price were lower. Explain the logic of this relationship.

Determine how the annualized yield of a T-bill would be affected if the number of days were reduced, holding the purchase price and selling price constant. Explain the logic of this relationship.

If bond yields in Japan rise, how might U.S. bond yields be affected? Why?

Explain how the credit crisis affected the default rates of junk bonds and the risk premiums offered on newly issued junk bonds.

Assume the following information for an existing bond that provides annual coupon payments: Par value = $1,000, Coupon rate = 11%, Maturity = 4 years, Required rate of return by investors = 11%.

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?

Cardinal Company, a U.S.-based insurance company, considers purchasing bonds denominated in Canadian dollars, with a maturity of six years, a par value of C$50 million, and a coupon rate of 12 percent.

Determine the expected U.S. dollar cash flows to Cardinal over the next four years.

Determine the present value of a bond.

Does Cardinal expect to be favorably or adversely affected by the interest rate risk? Explain.

Does Cardinal expect to be favorably or adversely affected by exchange rate risk? Explain.

What is the general relationship between mortgage rates and long-term government security rates? Explain how mortgage lenders can be affected by interest rate movements. Also, explain how they can insulate against interest rate movements.

Why is the 15-year mortgage attractive to homeowners? Is the interest rate risk to the financial institution higher for a 15-year or a 30-year mortgage? Why?

Paper For Above instruction

The relationship between short-term treasury bill yields and broader economic indicators provides vital insights into market expectations and monetary policy. A key measure in this regard is the yield of a T-bill, especially when an investor purchases a six-month T-bill with a specified purchase price and later sells it at different prices. For instance, an investor purchasing a $10,000 par value T-bill at $9,000 and selling it after 90 days for $9,100 would experience a specific yield. This yield reflects the annualized return based on the purchase and sale prices and the holding period, illustrating how short-term government securities build into broader investment strategies.

Similarly, repurchase agreements, or repos, play a pivotal role in short-term financing, especially among corporations like Stanford. When Stanford buys securities for $4.9 million and agrees to sell them back for $5 million in 40 days, the repo rate or yield can be computed based on the dollar difference spread over the period. This rate serves as a crucial benchmark for short-term credit and liquidity management, influencing monetary policy and financial market stability.

International investments further complicate yield calculations. For example, a U.S. investor investing in British-pound-denominated instruments earns returns influenced by currency exchange rates. If the investor begins with $1.50 per pound and the security yields 5% in pounds over a year, with an end-of-year spot rate of $1.52 per pound, the effective annual yield combines the local yield with currency appreciation or depreciation. This calculation illustrates the impact of exchange rate movements on investment returns and underpins the importance of assessing currency risk in global portfolios.

The intrinsic relationship between bond yields and their respective pricing parameters, such as purchase price, selling price, and holding period, determines the annualized yield. Lower purchase prices generally increase yields, assuming all else equal, because the return relative to the purchase price is higher. Conversely, if the selling price is lower, the yield increases because the difference between purchase and sale prices is larger relative to the initial investment. Additionally, minimizing the number of days held while maintaining the same prices increases the annualized yield because the return is realized over a shorter period, emphasizing the importance of timing in fixed-income investing.

Global bond markets are interconnected. For example, a rise in Japanese bond yields often impacts U.S. yields due to capital flows and investor sentiment, reflecting expectations of global monetary policy shifts. When yields in a major economy like Japan increase, U.S. yields may also rise as investors seek higher returns or reallocate their investments across borders, demonstrating the integration of international bond markets.

The credit crisis has profoundly affected junk bonds, raising their default rates and risk premiums. As economic uncertainty increased, investor appetite for higher-yield, high-risk bonds diminished, leading issuers to adjust risk premiums requiring higher returns to attract buyers. This movement highlighted the heightened risk associated with distressed debt during turbulent economic periods and underscored the importance of credit risk assessment in bond valuation.

Bond valuation is fundamental in understanding fixed-income investments. A bond with an $1,000 par, 11% annual coupon rate, four-year maturity, and an 11% required return has a specific present value. When the required return changes, so does the bond's price, reflecting the inverse relationship between bond prices and market interest rates. A higher required return (14%) results in a lower present value, indicating how interest rate fluctuations impact bond prices. Conversely, a lower required rate (9%) increases the bond's valuation, illustrating the sensitivity of bond prices to interest rate changes and the importance of interest rate forecasts in investment decisions.

Cross-currency bond investment involves currency exchange rate risks, as seen with Canadian dollar-denominated bonds purchased by U.S. companies like Cardinal. The expected cash flows depend on the future exchange rates, which can be forecasted based on economic indicators and currency trends. These expected cash flows influence the present value calculation, combining bond cash flows with anticipated currency movements. The interest rate environment and exchange rate risk can adversely or favorably affect such investments, underlining the importance of hedging strategies and risk assessment in international bond investments.

Mortgage rates tend to follow long-term government bond rates, especially the 10-year Treasury. This correlation arises because mortgage lenders often issue long-term loans and seek to hedge their interest rate risk through government securities. When long-term rates rise, mortgage rates typically increase, raising borrowing costs for consumers. Lenders can protect themselves against interest rate fluctuations through derivatives, securitization, or adjustable-rate mortgages, adjusting loan terms or using interest rate swaps to manage risk exposures. The attractiveness of a 15-year mortgage lies in faster equity accumulation and lower total interest payments, but it also exposes lenders to interest rate risk. Longer maturities, like 30 years, inherently entail greater rate risk, influencing pricing, risk management strategies, and lending decisions.

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