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Hi, I had some doubts while solving the kit pls help.
Company B, a forestry company, is looking to raise $5 million through the issue of 6 year
deep discounted zero coupon bonds. The issue price has been set at a 40% discount. Kevin
may invest but is looking for a return of 10% per annum to do so.(1) Calculate the gross redemption yield on the deep discounted bonds. Give your
answer as a percentage to 1 dp.Thank you in advance
As always, the redemption yield is the IRR of the returns to the investor.
For every $100 nominal value, the investor will pay $60 and will receive $100 in 6 years time on redemption. (There is no interest receipt).
So the redemption yield is the IRR of an outflow of $60 at time 0 and a receipt of $100 in 6 years time.
I tried that but unfortunately its a wrong answer!
i used 5% and 10% as my discount factors.
5 + (14.6/(14.6 + 17.93)) * 5 = 7.24
if my calc is correct then i’m afraid the method u suggested is wrong!
The method is certainly not wrong – there is no other method and I would not have typed my reply if it was wrong!!!!
I have no idea where you got 17.93 from.
However why on earth are you making two guesses? You will know from my lectures that making 2 guesses only gives an approximation to the IRR.
Here you obviously do not need to make two guesses (although you would not lose marks if you did). The IRR is by definition the rate of interest that gives an NPV of zero.
Therefore the PV of $100 in 6 years time must be $60.
Given that the PV of $100 in 6 years time is $100 x the discount factor at the IRR, the discount factor must be 60/100 = 0.6. So quicker is to check in the tables for the rate of interest that has a 6 year discount factor of 0.6 and you will see that it is (almost) 9%
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