Expert: Doug Ingram - 7/17/2005

Question
can you give me some clue and steps to start this problem?

Joey decided to live on his own after he graduated from Ryerson. He just got a pretty decent job and hopes he can support himself from now on without the help of his parents. He is paying $740 per month for rent in his downtown apartment and an additional $150 per month for parking and maintenance fees. Joey was wondering if he should buy a house instead. He would be able to pay 15% down payment and take out a mortgage for the remaining amount over the next 20 years at a quoted rate of 5.8% given by a local bank's mortgage specialist. Joey is wondering if he should really look into this option and make mortgage payments equal to the expenses he is currently paying for the apartment.

a)   If Joey seriously wanted to buy a house instead of living in his apartment for the next 20 years, what is the maximum amount that he can afford to pay for a house?

b)   From a) now Joey knows the maximum amount that he can spend on his house. You are a close friend of Joey, who has just learned about bonds in the CFIN300 course, and you are wondering if Joey could invest in a bond equal to the value of his remaining mortgage principal with semi-annual coupon payments to cover his monthly expenses. If the coupon rate is 12% and the yield-to-maturity is expected to be 9%, what is the face value of this bond?


Answer
I'm getting far too many long involved finance questions and I really need to stick to questions about bonds.

If Joey was able to pay $740 a month plus the $150 parking, he would still have maintenance expenses with a house - so this question is kind of loaded.

For 740+150 =890
240 months
rate=5.8%/12 or (.004833)
PV = (payment x (((1 + rate)^240-1)/(rate))/((1+rate)^240)

I get 126251.7
divide by .85 to get 148531.40 total price of house

He needs a face value of 44,500 to pay 12% or 890x12 to retire his payment (unless it was 740*12)
In bond terms that is the face value.  To buy the bond to yield 9%, he would have to pay more - but that's another question.