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In Toltuck question, the answer is :
The goverment yield curve can be estimated from the data available:
Bond 1 : $104 = $109/ (1+r1) => r1 = 4.81%
Bond 2: $102 = $7/1.0481 + $107/(1+r2)^2 => r2 = 5.95%
Bond 3: $ $98 = $6/1.0481 + 6/ 1.0595^2 + $106/(1+r3)^3Please explain what is the meaning of :
$7/1.0481 of bond 2
$6/1.0481 + 6/ 1.0595^2 of bond 3Thank you.
The MV is as always the PV of the future receipts discounted at the relevant returns.
4.81% is the 1 year return, so for bond 2 the MV is equally to the interest in 1 year of 7 discounted at 4.81% plus the receipt of 107 in 2 years discounted at the 2 year return. So using simple algebra we can calculate the 2 year return,
It is the same logic for bond 3.
There are 3 separate bonds in issue.Why interest in 1 year of 7 discount for bond 2 is discounted by 1 year return of bond 1 ?Do you have any lecture on this topic?
Because the bonds are all the same risk and therefore the rate for time 1 is applies to the time 1 receipt for all of the bonds.
There is no specific lecture on using the different rates for each year, but the method of valuing bonds is obviously covered in the lectures and there is a Technical Article on the ACCA website covering what is examined in this question.
Which chapter contains your lecture for content of method of valuing bonds?
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