Well-structured INV3702 Assignment 2 (ANSWERS) Semester 2 2024 - DISTINCTION GUARANTEED. (DETAILED ANSWERS - DISTINCTION GUARANTEED!).. Question 1
You observe the following sovereign bonds.
Time to maturity Coupon Yield to maturity
Bond A 1 year 6% 2.342%
Bond B 1 year 0% 2.350%
Bond C 2 years...
INV3702
Assignment 2 Semester 2 2024
Unique Number:
Due Date: September 2024
QUESTION 1
The price of the 2-year coupon bond (as a percentage of its par value) is calculated as follows:
• N = 2 years
• I/YR = 2.496%
• PMT = 6
• FV = 100
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QUESTION 1
The price of the 2-year coupon bond (as a percentage of its par value) is calculated as
follows:
• N = 2 years
• I/YR = 2.496%
• PMT = 6
• FV = 100
The present value (PV) is computed to be 106.7541.
The no-arbitrage price of the 2-year coupon bond based on spot (zero-coupon) rates is:
6 106
+ = 106.7546
1.02350 1.025002
The 2-year coupon bond's price equals its no-arbitrage value, therefore the bond is fairly
valued.
QUESTION 2
The trader should buy Bond B.
Reasoning:
• Bond B has a current yield to maturity of 8.5%, which is higher than the average
yield of similar bonds at 8.0%.
• If the trader expects bond yields to return to the yield of the peer group (8.0%), the
price of Bond B will increase as the yield declines to match the average yield.
• Bonds with a higher yield than their peers are generally underpriced, and as the
yield decreases to the peer level, the bond price will rise, allowing the trader to profit
from this price increase.
QUESTION 3
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