Problem A3: (Bond valuation) General Electric made a coupon payment yesterday on its 6.75% bonds that mature in 8.5 years. If the required return on these bonds is 8% APR, what should be the market price of these bonds?
The semiannual coupon payments in this case will be $33.75 (= one-half of 6.75% of $1,000 = 67.5/2), and the semiannual required return is 4%.
Using Equation and example (5.1), the fair price of the bond—the present value of its expected future cash flows—is
B0=(33.75)(1.04)17-1 0.041.0417+ 1,0001.0417
= (33.75) (0.947/0.077) + 513.67 = 415.081 + 513.610 = 928.45
Buying this bond for less than $928.45 would be a positive-NPV investment because it is worth more than it costs. Paying more than $928.45 would be a negative-NPV investment. At its fair price of exactly $928.45, buying the bond would be a zero-NPV investment
