Suppose that you are considering investing in a four-year bond that has a par value of $1,000 and a coupon rate of 6%.
(a) What is the price of the bond if the market interest rate on similar bonds is 6%? What is the bond’s current yield?
(b) Suppose that you purchase the bond, and the next day the market interest rate on similar bonds falls to 5%. What will be price of your bond be now? What will its current yield be?
(c) Now suppose that one year has gone by since your bought the bond, and you have received the first coupon payment. How much would another investor now be willing to pay for the bond? What was your total return on the bond? (Market interest rate remains at 5%.)
(d) Now suppose that two years have gone by since you bought the bond and that you have received the first two coupon payments. At this point, the market interest rate on similar bonds unexpectedly rises to 10%. How much would another investor be willing to pay for your bond?