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BUS 635 Quiz

Question 1)

You want to go to Europe 5 years from now, and you can save $3,100 per year, beginning one year from today.  You plan to deposit the funds in a mutual fund that you think will return 8.5% per year.  Under these conditions, how much would you have just after you make the 5th deposit, 5 years from now?

Question 2)

You plan to invest in bonds that pay 6.0%, compounded annually.  If you invest $10,000 today, how many years will it take for your investment to grow to $30,000?

Question 3)

Suppose the U.S. Treasury offers to sell you a bond for $3,000.  No payments will be made until the bond matures 10 years from now, at which time it will be redeemed for $5,000.  What interest rate would you earn if you bought this bond at the offer price?

Question 4)

You want to buy a new ski boat 2 years from now, and you plan to save $8,200 per year, beginning one year from today.  You will deposit your savings in an account that pays 6.2% interest.  How much will you have just after you make the 2nd deposit, 2 years from now?

Question 5)

Your father’s employer was just acquired, and he was given a severance payment of $375,000, which he invested at a 7.5% annual rate.  He now plans to retire, and he wants to withdraw $35,000 at the end of each year, starting at the end of this year.  What is the maximum number of whole payments that can be withdrawn before the account is exhausted; i.e., before the account balance would become negative?

Question 6)

D. J. Masson Inc. recently issued noncallable bonds that mature in 10 years.  They have a par value of $1,000 and an annual coupon of 5.5%.  If the current market interest rate is 7.0%, at what price should the bonds sell?

Question 7)

Quigley Inc.’s bonds currently sell for $1,080 and have a par value of $1,000.  They pay a $100 annual coupon and have a 15-year maturity, but they can be called in 5 years at $1,125.  What is their yield to maturity (YTM)?

Question 8)

If 10-year T-bonds have a yield of 6.2%, 10-year corporate bonds yield 8.5%, the maturity risk premium on all 10-year bonds is 1.3%, and corporate bonds have a 0.4% liquidity premium versus a zero liquidity premium for T-bonds, what is the default risk premium on the corporate bond?

SAMPLE SOLUTION :

Year T bond YTM 6.20%
10 Year Corporate Bond YTM 8.50%
maturity risk premium 1.30%
liquidity premium for Corporate Bond 0.40%
The default risk premium on the corporate bond = Market Risk of corporate over T bonds

Default Risk Premium Encompasses all risk of liquidity and Maturity 2.30%

Question 9)

Wachowicz Corporation issued 15-year, noncallable, 7.5% annual coupon bonds at their par value of $1,000 one year ago.  Today, the market interest rate on these bonds is 5.5%.  What is the current price of the bonds, given that they now have 14 years to maturity?

Question 10)

The Morrissey Company’s bonds mature in 7 years, have a par value of $1,000, and make an annual coupon payment of $70.  The market interest rate for the bonds is 8.5%.  What is the bond’s price?

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