You are considering buying a 10-year, $1,000 par value bond issued by IBM. The coupon rate is 8% annually, with interest being paid semiannually. If you expect to earn a 10% rate of return on this bond, what is the maximum price you should be willing to pay for this IBM bond?

Question

Lilliana Zavala

Business

4 June, 10:39

You are considering buying a 10-year, $1,000 par value bond issued by IBM. The coupon rate is 8% annually, with interest being paid semiannually. If you expect to earn a 10% rate of return on this bond, what is the maximum price you should be willing to pay for this IBM bond?

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Answers (1)

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Alena Maldonado · Answer 1

The maximum price we should be willing to pay for this IBM bond is $ 877.

Explanation:

The price of bond can be determine by discounting all future cashlows we will get from bond in form of interest payment or redemption amount using expected rate of return.

The detail calculation is given below.

Price = 1000 * Discount factor + annuity factor * 80

Price = 1000 * 0.386 + 80 * 6.145 = 878

Discount factor = (1+10%) ^-10 = 0.386

Annuity factor = (1 - (1+10%) ^-10) / 10% = 6.145