- CFA Exams
- CFA Level I Exam
- Study Session 15. Fixed Income (2)
- Reading 46. Understanding Fixed-Income Risk and Return
- Subject 1. Sources of Return

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**CFA Practice Question**

The amount one can potentially earn, if rates remain constant, on the second interest payment of a 5-year, 6% bond when a reinvestment rate of 8% is available is ______.

B. $1.11

C. $1.26

A. $1.73

B. $1.11

C. $1.26

Correct Answer: B

3((1.04)

^{8}- 1) = $1.11###
**User Contributed Comments**
20

User |
Comment |
---|---|

jamiejamie |
how do you calculate this with a calculator? |

Gina |
now, if this is the 2nd payment, why do you take 1+r to the 8th power, vs: 3((1.04)^2-1)=.24 ?? |

cuong |
the second payment of a 5-year, 6% bond is $3 (0.06/2*100). The question means how much you will potentially earn from reinvestment with this interest ($3) until maturity. After the second payment, there should be 8 periodic payments left. Thus, the correct calculation is: 3(1.04)^8 - 3 = $1.11 |

synner |
on a calculator, N=8, I/Y=4,PV=3, PMT=0 CPT FV = 4.1 4.1-3 = 1.1, earn 1.1 extra. |

haarlemmer |
Interest on interest problem Without reinvesting in anything, you will have 8 times of interest $3 Now you are able to invest at 8% (4% semi-annually) The interest on interest is then 3*(1.04^8-1) |

Thomy22 |
sry but where can you read in the question that we are speaking about an semi-annually bond ?? |

jjowen |
if not given, semi-annual is the default one. |

surob |
where did 3 came from? |

thekapila |
3 is coupon payment..6% |

danrow |
sometimes you have to guess that is a coupon bond with a fv of 1000 and sometimes of 100... confusing! |

steved333 |
sometimes, but you just have to use a little intuition. a $1000 FV bond isn't going to be dealing in single-digit dollar interest payments unless the interest is REALLY low... |

8thlegend |
So let me see if I am getting this right $3 is the 6% bond coupon payment because it's semi annual its 6$/2 = $3. (1 + (0.08/2))^ (10 - 2) - 1 because it starts from the 2nd coupon rate. so 3*(1.04)^8 = 1.11? |

shiva5555 |
Where did that equation come from? |

JohnnyWu |
The switch between $100 and 1,000 bond values is a little confusing. |

safash |
shiva5555 equation is in the notes explaning how to calculate reinvestment |

jonan203 |
no, the switch isn't confusing. no one issues $1,000 par bonds that .10 bps (.10%) coupons. $1,000 x .10% = $1.00 cmon guys!!! |

pranubal |
why is that we have to assume as a semiannual when it is not mentioned anywhere, why can't we assume it as an annual |

chester21 |
Why is assumed semi annual and not annual? Are we meant to guess from the answers? |

Fabulous1 |
You are meant to guess by common sense |

pigletin |
ad wording |