Mary just bought a 20-year bond with an 8% coupon rate (paid semi-annually) and $1000 par value for $1050. She is expecting an effective annual yield (EAY) of

7.65%

Explanation:

Calculation for Mary effective annual yield (EAY)

The first step is to find the Semiannual coupon payment using this formula

Semiannual coupon payment=(Par value×Coupon rate percentage/2)

Let plug in the formula

Semiannual coupon payment =($1,000 × 8%) ÷2

Semiannual coupon payment= $80 ÷ 2 = $40

Second step is to find The total number of compounding period will be 20 years bond × The number of the compounding period er year which is 2

Hence,

The total number of compounding period will= 2 periods per year × 20 years = 40 periods.

Third step is to use the financial calculator which calculated the rate as 3.76% which means that:

Semiannual yield will be :3.76%

Therefore the Annual yield will be calculatedas = 3.76% ×2

Annual yield= 7.51%

The last step is to find the effective annual yield (EAY) using this formula

EAY = [1+(Quoted interest rate / m]m -1

Let plug in the formula

EAY = [1+(0.0751÷2)]2 -1

EAY= 7.65%.

Therefore the effective annual yield (EAY) will be 7.65%

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