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CMA Final · Strategic Financial Management · Equity and Bond Valuation and Evaluation of Performance

Kaveri Ltd bonds have a face value of Rs 1,000, a 10% annual coupon and 3 years to maturity. The bond is priced at Rs 951.96 and the yield to maturity is 12%. Using Macaulay duration, which is closest to the duration in years? (PV factors at 12%: year1 0.8929, year2 0.7972, year3 0.7118)

Duration is about 2.74 years. Discount each cash flow at 12%, weight each year by its present value, and divide the sum of time-weighted present values (about 2,598) by the bond price (about 952). Duration is below the 3-year maturity because coupons are paid earlier.

  1. A3.00
  2. B2.74Correct
  3. C2.50
  4. D2.90

Explanation

PVs: yr1 100 x 0.8929 = 89.29; yr2 100 x 0.7972 = 79.72; yr3 1100 x 0.7118 = 782.98. Total = 951.99. Weighted: 89.29 + 159.44 + 2348.94 = 2597.67. Duration = 2597.67/951.99 = 2.73, closest to 2.74. Maturity of 3 years ignores the interim coupons.

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