In: Finance
YIELD TO MATURITY
A firm's bonds have a maturity of 8 years with a $1,000 face value, have an 11% semiannual coupon, are callable in 4 years at $1,144, and currently sell at a price of $1,265.82.
Answer to Part a.
Face Value = $1,000
Current Price = $1,265.82
Annual Coupon Rate = 11%
Semiannual Coupon Rate = 5.50%
Semiannual Coupon = 5.50% * $1,000 = $55
Time to Maturity = 8 years
Semiannual Period to Maturity = 16
Let semiannual YTM be i%
$1,265.82 = $55 * PVIFA(i%, 16) + $1,000 * PVIF(i%, 16)
Using financial calculator:
N = 16
PV = -1265.82
PMT = 55
FV = 1000
I = 3.33%
Semiannual YTM = 3.33%
Annual YTM = 2 * 3.33%
Annual YTM = 6.66%
Answer to Part b.
Face Value = $1,144
Current Price = $1,265.82
Annual Coupon Rate = 11%
Semiannual Coupon Rate = 5.50%
Semiannual Coupon = 5.50% * $1,000 = $55
Time to Call = 4 years
Semiannual Period to Call = 8
Let semiannual YTC be i%
$1,265.82 = $55 * PVIFA(i%, 8) + $1,144 * PVIF(i%, 8)
Using financial calculator:
N = 8
PV = -1265.82
PMT = 55
FV = 1144
I = 3.273%
Semiannual YTC = 3.273%
Annual YTC = 2 * 3.273%
Annual YTC = 6.55%
Answer to Part c.
Investors would expect the bonds to be called and to earn the YTC because the YTC is less than the YTM.