Author Question: Describe the relationship between the yield to maturity and the coupon rate of a bond. What will ... (Read 58 times)

student77 · **on:** Jul 10, 2018

Describe the relationship between the yield to maturity and the coupon rate of a bond.

What will be an ideal response?

Question 2

Your friend, Dobson, manages the Formula Growth mutual fund. Dobson expects to earn 11 on his portfolio with a beta of 1.2. You only invest in shares of General Electric and T-Bills.

You like GE because it was started in 1890 by Thomas Edison, the great American inventor, and it has a diversified portfolio of products including jet engines and MRI diagnostic imaging machines. The expected return of GE is 13 and its beta is 1.40. The expected return on T-Bills is 2. If you construct your portfolio so that its risk is equal to the risk of Formula Growth, then what portfolio weight do you need on the shares of GE?
A) 0.85
B) 0.86
C) 0.87
D) 0.88
E) 0.89

AISCAMPING · **Reply #1 on:** Jul 10, 2018

Answer to Question 1

Answer: The coupon rate only tells a bond buyer what prevailing bond rates were when the bond was originally issued. Bond sellers have to make the coupon rate competitive with the market or the bond will not sell well. After the original bond sale, however, the only function of the coupon rate is to tell you what the annual payment is. The annual payment equals the coupon rate par (face value). The yield to maturity (YTM), however, accounts for more than just the coupons, and it reflects all the other risks of the bond. The YTM is the market rate, and it changes continuously over time, unlike the coupon rate, which never changes (at least for fixed-rate bonds).

Answer to Question 2

B