Assignment Finance

AD 311

HOMEWORK ASSIGNMENT- Due May 13th, 2016

Please send your answers to gizem.cevheroglu@boun.edu.tr

1. On December 20, 1994 the Societe du Tombac (ST) issued €1 billion of 10-year debentures due

December 20, 2004. The debentures carried a 4.75% coupon. They were priced at par, that is, they cost

the investor €1000. The entire amount of borrowed principal would be repaid at maturity. Interest

would be paid annually upon the anniversary date of the issuance (i.e., on December 20th of each year).

The debentures carried a AAA credit rating.

a. What was the yield to maturity of ST’s debenture at the time of issuance? What would it have been if

the bonds were priced at 99 instead 100 (i.e., at 99% of face value)? at 101 instead of 100? (Hint: You

should use the YIELD formula in excel to solve for the YTM) (8 points)

b. By 1996 yields on AAA euro debt maturing in 8 years had dropped to 3.00%. Given this yield to

maturity, at what price should the ST debentures have been selling? (7 points)

2. Mr. and Mrs. Brown purchased a $35,000 house 20 years ago. They took a 30-year mortgage for

$30,000 at a 3% annual interest rate. Their bank has recently offered the couple two alternatives by

which they could prepay their mortgage. The Browns have just made their 20th annual payment. Which

of the following two alternatives, if either, should the Browns pursue?

a. The couple could prepay their mortgage at a 30% discount from the current principal outstanding

while current 10-year mortgage rates are 12%. Assume payments are made at the end of each year

(instead of monthly). (8 points)

b. The couple could replace their existing mortgage with a five-year zero-interest loan, in the amount of

their current mortgage’s principal outstanding. This new loan is to be repaid in 5 equal annual payments.

The banker pointed out that this option would “save them well over $2,000 in interest.” (10 points)

3. Paint and More (PM) is considering the purchase of a paint-mixing...