(Default risk) As an investment, Portland Capital Partners purchases an extremely risky bond that promises a 8.75% coupon and return of the $1,000 principal in 10 years. Portland Capital pays $500 for the bond. a. In the first four years, Portland Capital is paid the coupon payments as expected for four years and then the bond defaults. The bond-issuing firm liquidates and the bondholders receive a distribution of $225 per bond at the end of 4.5 years.
a. What is the realized return on Portland Capital’s investment? (Hint: Remember to account for the two annual payments on bonds.)
b. The firm does far better than expected and bondholders receive all of the promised interest and principal payments. What is the realized return on Portland Capital’s investment? (Hint: Remember to account for the two annual payments on bonds.)
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