Hi everyone hope prep is going well
CFAI printable mock PM, question 45 shows value year 2 to be 103.522
My understanding is that the first value at year 2 should be 104 / 1.045 (Schweser way), not 0.5 x [(104/1.045) + (104/1.045)] +4 (CFAI mock answer).
Why is there differences in be approach here? Why is the extra 4 being added when we are already taking the 104 from year 3 (maturity). Please help!!! Thanks in advance
Because you’re getting paid a coupon at every node except at time 0 since that’s when you buy the bond.
Also, for the price at time 0, they don’t include any coupon in the calculation!?
schweser questions all include coupon for Time 0…
really confused here.
Thanks in advance
Please explain further? Doesn’t the 104 already include the coupon? Why are we adding the extra 4 at Year 2?
104 is the total cash flow at maturity. When you discount backward, you add the coupon on the discounted CF because that well be the future cash flow for the year preceding that year.
At time 0 no bonds pay coupon. When u buy a bond, you never get a coupon payment on the spot.
Thanks for your help 
Argh sorry one more thing… all of the Schweser questions still include the coupon payment from Year 1 when calculating Year 0…
the CFAI mock question doesn’t include them and the two approaches aren’t lining up.
Hope you can help
Of course they will. The value of any asset is tge PV of its future CF. At time 0 (right now), I wanna know what I should be paying for coupons I get next year + the next years PV of the CFs in the year after that.
Schweser and curriculum lead to same answer. I suggest you follow the curriculum method as its more comprehensive and easier to understand.
Really appreciate your help.
Why do some include the coupon in along with value from prior year for each node and some just at the end (leading to different answers) ie coupon of 10 = (103 / 1.02) + (104 / 1.02) x 0.5 + 10
versus
(103 + 10 / 1.02) + (104 + 10 / 1.02) x 0.5
Both pretty much mean the same. I’d stick to the top one since it makes more sense and is easier to understand and is also prone to less error.
Top produces 111.47 and bottom 111.27 so they are different and have seen both variations used… so not sure which is correct
thank you
Stick to the curriculum. Also, my guess is that they may not give you options which have a difference of say 20-30bps. The questions usually ask closest to and not the exact value. Even if they do ask the exact value, you’ll be able to tell the right one.
The top and bottom give the same result btw. In the bottom one first divide and then add the coupon.