B01 Bond valuation in a three-year market

A coupon bond and a zero-coupon bond trade over three periods, each standing for a year. The session runs twice.

Objective

Finish with as much wealth as possible. Assessed on final wealth.

What it shows

• A bond's price as the discounted value of what it pays.
• A coupon bond as a bundle of zero-coupon payments, so that the two prices cannot drift apart.
• Interest on cash at 25%, which gives the bonds something to be compared with.

Watch out for

• Buying a bond at a price the other bond contradicts.
• Coupon payments arriving at the end of a period and changing cash, not the price.
• A second run in which the same mistakes cost the same again.

Who takes part

• Trader — every student. All trade CPN, the coupon bond, and ZERO, the zero-coupon bond.

Class size

Ten to forty students, all in one role. The bonds are priced by trading, so a thin class means a thin market.