29 Jun Question Course name: Foundations of Financial Man
Question
Course name: Foundations of Financial Management (10248) – Fall I, 2013
Assignment name: Week 4 Questions/Problems
1. Which of the following statements is CORRECT?
a. Assume that two bonds have equal maturities and are of equal risk, but one bond sells at par while the other sells at a premium above par. The premium bond must have a lower current yield and a higher capital gains yield than the par bond.
b. A bond’s current yield must always be either equal to its yield to maturity or between its yield to maturity and its coupon rate.
c. If a bond sells at par, then its current yield will be less than its yield to maturity.
d. If a bond sells for less than par, then its yield to maturity is less than its coupon rate.
e. A discount bond’s price declines each year until it matures, when its value equals its par value.
2. You are considering two bonds. Bond A has a 9% annual coupon while Bond B has a 6% annual coupon. Both bonds have a 7% yield to maturity, and the YTM is expected to remain constant. Which of the following statements is CORRECT?
a. The price of Bond A will decrease over time, but the price of Bond B will increase over time.
b. The price of Bond B will decrease over time, but the price of Bond A will increase over time.
c. The prices of both bonds will remain unchanged.
d. The prices of both bonds will increase by 7% per year.
e. The prices of both bonds will increase over time, but the price of Bond A will increase by more.
Problem 5-2
Yield to Maturity for Annual Payments
3. Wilson Wonders’s bonds have 15 years remaining to maturity. Interest is paid annually, the bonds have a $1,000 par value, and the coupon interest rate is 12%. The bonds sell at a price of $1,100. What is their yield to maturity? Round your answer to two decimal places.
%
Problem 5-6
Maturity Risk Premium
4. The real risk-free rate is 2%, and inflation is expected to be 4% for the next 2 years. A 2-year Treasury security yields 7.8%. What is the maturity risk premium for the 2-year security?
%
Problem 5-4
Determinant of Interest Rates
5. The real risk-free rate is 4%. Inflation is expected to be 2% this year and 4% during the next 2 years. Assume that the maturity risk premium is zero.
What is the yield on 2-year Treasury securities? Round your answer to two decimal places.
%
What is the yield on 3-year Treasury securities? Round your answer to two decimal places.
%
Problem 5-19
Maturity Risk Premiums
6. Assume that the real risk-free rate, r*, is 3% and that inflation is expected to be 7% in Year 1, 6% in Year 2, and 4% thereafter. Assume also that all Treasury securities are highly liquid and free of default risk. If 2-year and 5-year Treasury notes both yield 10%, what is the difference in the maturity risk premiums (MRPs) on the two not
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