Series 7 question

Question

1.    An investor buys a corporate bond at 70 with 10 years to maturity. If the investor sells the bond at 86 in 7 years, what is the gain or loss?

A. $50 gain

B. $50 loss

C. $60 gain

D. $60 loss

Answer 1

If this investor chooses to accrete the market discount into income each year (as the exam tests on and wants you to know), then the amount of the discount (30 points, the difference between the par of 100 pts and the 70 pts at which it was purchased) would be divided by the time remaining in the bond's life, which was 10 years when purchased, so we would divide the 30 by 10 to get 3 pts being accreted per year (30/10 = 3)

Fast forward 7 years, and our investor has so far accreted 21 points of that discount by the time that they sell the bond, which added to the original purchase of 70, brings the bond up to 91.

Being that they sell it at 86 after accreting it to 91, they are clearly taking a loss. With a difference of 5 points at $10 per point, that is a loss of $50 for our investor, so B is our answer.