Question
Bond ABC matures in two years with a coupon rate of 12%
and a maturity value of Rs.1,000. If the bond pays annually and the discount rate is 10%, what is the current value of the bond?Solution
Every year the bold will pay the coupon amount, which is positive cash flow for the bond holder. Cash flow at the end of year one = 1000x 12%= 120 Cash flow at the end of year two = (1000x 12%)+1000= 120+1000=1120 At the end of year two, the maturity value will also be repaid so added in the cash flow. Both these cash flows are to be discounted to the present value (PV) using discounting formula, taking 10% as discounting rate PV of the bond = (120/(1.10))+(1120/(1.10)(1.10)) =1034.71 or 1035 Please note that if the discount rate changes and everything else remains the same, the value of the bond changes
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