The smarter way
to do assignments.

Please note that this is just a preview of a school assignment posted on our website by one of our clients. If you need assistance with this question too, please click on the Order button at the bottom of the page to get started.

WESTERN MONEY MANAGEMENT INC.BOND VALUATION Robert Black and Carol Alvarez are vice presidents of Western Money Management and codirectors of the companys pension fund management division. A major new client, the California League of Cities, has requested that Western present an investment seminar to the mayors of the represented cities. Black and Alvarez, who will make the presentation, have asked you to help them by answering the following questions.a. What are a bonds key features?b. What are call provisions and sinking fund provisions? Do these provisions make bonds more or less risky?c. How is the value of any asset whose value is based on expected future cash flows determined?d. How is a bonds value determined? What is the value of a 10-year, \$1,000 par value bond with a 10% annual coupon if its required return is 10%?e. (1) What is the value of a 13% coupon bond that is otherwise identical to the bond described in Part d?Would we now have a discount or a premium bond?(2) What is the value of a 7% coupon bond with these characteristics? Would we now have a discount or premium bond?(3) What would happen to the values of the 7%, 10%, and 13% coupon bonds over time if the required return remained at 10%?f. (1) What is the yield to maturity on a 10-year, 9%, annual coupon, \$1,000 par value bond that sells for \$887.00? that sells for \$1,134.20? What does the fact that it sells at a discount or at a premium tell you about the relationship between rdand the coupon rate?(2) What are the total return, the current yield, and the capital gains yield for the discount bond? Assume that it is held to maturity and the company does not default on it.g. What is interest rate (or price) risk? Which has more interest rate risk, an annual payment 1-year bond or a 10-year bond? Why?h. What is reinvestment rate risk? Which has more reinvestment rate risk, a 1-year bond or a 10-year bond?i. How does the equation for valuing a bond change if semiannual payments are made? Find the value of a 10-year, semiannual payment, 10% coupon bond if nominal rd= 13%.j. Suppose for \$1,000 you could buy a 10%, 10-year, annual payment bond or a 10%, 10-year, semiannual payment bond. They are equally risky. Which would you prefer? If \$1,000 is the proper price for the semiannual bond, what is the equilibrium price for the annual payment bond?k. Suppose a 10-year, 10%, semiannual coupon bond with a par value of \$1,000 is currently selling for \$1,135.90, producing a nominal yield to maturity of 8%. However, it can be called after 4 years for \$1,050.(1) What is the bonds nominal yield to call (YTC)?(2) If you bought this bond, would you be more likely to earn the YTM or the YTC? Why?l. Does the yield to maturity represent the promised or expected return on the bond? Explain.m. These bonds were rated AA- by S&P. Would you consider them investment-grade or junk bonds?n. What factors determine a companys bond rating?o. If this firm were to default on the bonds, would the company be immediately liquidated? Would the bondholders be assured of receiving all of their promised payments?
Solution: WESTERN MONEY MANAGEMENT INC. a) Fixed income securities such as bonds are a promise to pay a stream of semi-annual payments for a given number of years and then repay the loan amount at the maturity date. Let us consider a straight (Option-free) bond. For Example, a Treasury bond that has a 6% coupon and matures five years from today in the amount of \$1000 is a promise by the issuer (U.S. Treasury) to pay 6% of the \$1000 par value (\$60) each year for five years and to repay the \$1000 five years from today. With treasury bonds and almost all U.S. corporate bonds, the annual interest is paid in two semi-annual instalments. Therefore, this bond will make nine coupon payments (one every six months) of \$30 and a final payment of \$1030 (par value plus the final coupon payment) at the end of five years. This stream of payment is fixed when the bonds are issued and does not change over the life of the bond. Each Semi-annual payment is one-half the coupon rate (which is always expressed as an annual rate) times the par value, which is sometimes called the face value or the maturity value. An 8% treasury note with a face value of \$100000 will make a coupon payment of \$4000 every six months and a final payment of \$104000 at maturity. A U.S. treasury bond is determined in U.S. dollars. Bonds can be issued in other currencies as well. The currency denomination of a bond issued by the Mexican government will likely be Mexican pesos. Bonds can be issued that promise to make…