Asked by Kwama Kenyatta on Apr 26, 2024
Verified
An institutional investor will have to pay off a maturing bond issue in 3 years. The institution has 10,000 bonds outstanding, each with a $1,000 par value. The institutional money manager is reevaluating the fund's total portfolio of $100 million at this time. She is bullish on stocks and wants to put the most she can into the stock market, but she cannot risk being unable to pay off the bonds. Three-year zero-coupon bonds are available paying 6% interest. What percentage of the total $100 million portfolio can she put in stocks and still ensure meeting the bond payments?
A) 87.4%
B) 88.5%
C) 90%
D) 91.6%
Institutional Investor
An organization, such as a bank, pension fund, mutual fund, or insurance company, that invests large sums of money into the financial markets.
Zero-Coupon Bonds
Bonds issued at a discount to their face value, paying no periodic interest but redeemed at par value at maturity.
Par Value
The face value of a bond or stock, as stated by the issuing company.
- Comprehend approaches to curtail interest rate risk through investment strategies.
Verified Answer
JS
Jackson SavageApr 28, 2024
Final Answer :
D
Explanation :
(10,000)(1,000) = $10,000,000 due in 3 years
$10,000,000/1.063 = $8,396,193 = present value of due amount
Calculator entries are n = 3, I/Y = 6, PMT = 0, FV = −10,000,000, CPT PV → 8,396,192.83.
She must devote this much of the $100 million portfolio to zero-coupon bonds, so the maximum amount to put in stocks is $100,000,000 − 8,396,192.83 = $91,603,807.17, or $91,603,807.17/$100,000,000, which is approximately 91.6% of the total portfolio value.
$10,000,000/1.063 = $8,396,193 = present value of due amount
Calculator entries are n = 3, I/Y = 6, PMT = 0, FV = −10,000,000, CPT PV → 8,396,192.83.
She must devote this much of the $100 million portfolio to zero-coupon bonds, so the maximum amount to put in stocks is $100,000,000 − 8,396,192.83 = $91,603,807.17, or $91,603,807.17/$100,000,000, which is approximately 91.6% of the total portfolio value.
Learning Objectives
- Comprehend approaches to curtail interest rate risk through investment strategies.