Tutorial 8 Solutions.pdf - Tutorial 8 Chapter 14 8 10 CFA-2...

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Tutorial 8 Chapter 14: 8, 10, CFA-2 Chapter 15: 2, 3, 7 Chapter 14 8. The bond price will be lower. As time passes, the bond price, which is now above par value, will approach par. 10. a. Zero coupon 8% coupon 10% coupon Current prices $463.19 $1,000.00 $1,134.20 b. Price 1 year from now $500.25 $1,000.00 $1,124.94 Price increase $ 37.06 $ 0.00 $ 9.26 Coupon income $ 0.00 $ 80.00 $100.00 Pretax income $ 37.06 $ 80.00 $ 90.74 Pretax rate of return 8.00% 8.00% 8.00% Taxes* $ 11.12 $ 24.00 $ 28.15 After-tax income $ 25.94 $ 56.00 $ 62.59 After-tax rate of return 5.60% 5.60% 5.52% c. Price 1 year from now $543.93 $1,065.15 $1,195.46 Price increase $ 80.74 $ 65.15 $ 61.26 Coupon income $ 0.00 $ 80.00 $100.00 Pretax income $ 80.74 $145.15 $161.26 Pretax rate of return 17.43% 14.52% 14.22% Taxes† $ 19.86 $ 37.03 $ 42.25 After-tax income $ 60.88 $108.12 $119.01 After-tax rate of return 13.14% 10.81% 10.49% * In computing taxes, we assume that the 10% coupon bond was issued at par and that the decrease in price when the bond is sold at year-end is treated as a capital loss and therefore is not treated as an offset to ordinary income. † In computing taxes for the zero coupon bond, $37.06 is taxed as ordinary income (see part (b); the remainder of the price increase is taxed as a capital gain.
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