1. You bought a bond of GM on January 1, 2006. The Yield to Maturity at the time of purchase was 8.2%. The bond had following characteristics: Term = 22 years, Coupon = 6.4% semi-annual, Face Value = $1,000.
On July 1, 2009 GM declared bankruptcy, and as part of the bankruptcy deal (worked with the help of US Government) the bond was renegotiated as follows.
• Beginning July 1, 2009 no interest will be paid for next 7 years.
• Afterwards, interest will be paid at 40% of the original coupon interest for the reminder of the term.
Determine the following.
a) Assuming you still own that bond until maturity and assuming there are no surprises in the future, what would be the true yield earned by you for the bond that you purchased on 1/1/2006.
b) On the day of bankruptcy declaration, the yield on the bond jumps by 3%, reflective of the added risk and Government intervention; if the Government had not intervened, the bond would be totally worthless). What was the bond trading on 7/1/2009?
c) Assuming you sold the bond on 7/1/2009 for that market price (ignore commission) what would be your HPY?
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The first step is to determine the purchase price of the bond.
YTM at time of purchase 8.20%
Term 22 years
Coupon rate 6.40%
Face value $1,000
Thus, semi-annual coupon payments $32.00
Price at time of purchase $817.95
Since there are 22 years, there are 44 payment periods.
The first 7 payments of $32 were made, thereafter for 14 periods, no payment was made and for the remaining period of 23 semi-annual periods, coupon paid was 40% of original i.e. $12.80...
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