Bond example

[ThomasW]

Hi everyone,
I struggle with a simple example. It seems like I am missing a point …
Assume a flat yield curve of 6%. A three-year 100 bond is issued at par paying an annual coupon of 6%. What is the bond’s expected return if a trader predicts that the yield curve one year from today will be a flat 7%?
My solution: In t0 the bond trades at par = 100, in t1 the bond should trade at 6/1,07 + 106/1,07^2 = 98,192. Return = 98,192/100 - 1 = -1,81%
Official solution: 6 + 6/1,07 + 106/1,07^2 =104,192. Return = 4,192%.
Thanks everyone …

 

[Yayyywork]

I am not 100% on this but you are showing the value @ t1 and calculating your return on that, you are ignoring the fact that the bond is earning interest up until that point.

 

[Harrogath]

I re-edit my post…
Thinking this right, the official answer is wrong and I rather accept yours as correct ThomasW
The intuitive way to answer this would say that if interest rates are going to rise, then the bond price should fall, so if we hold the bond until end-year 1, then we will make a loss.
Second, we always valorize bonds with future cash flows, so that “6$” coupon paid today must not be counted for the price. Thus correct valuation is P1 = 6/1.07 + 6/1.06^2