Question

MJI Corporation bonds mature in 6 years and have a yield to maturity of 8.5 percent. The par value of the bonds is $1,000. The bonds have a 10 percent coupon rate and pay interest on a semi-annual basis. Assuming there are no changes to interest rates during the course of the year, what are the current yield and capital gains yield on the bonds for this year?

Answer 1

First, let's find the current price of the bond

FV = 1,000

cpn = 1,000 * 0.10/2 = 50

n = 6 * 2 = 12 semi-annual payments

r = 8.5%/2 = 0.0425

Current yield = Annual coupon/Price

Current yield = (50 * 2)/1,069.3779618121

Current yield = 0.09351230675

Current yield = 9.351230675%

To find the capital gains yield, we need to find the bond price next year, that is when the bond matures in 5 years

n = 5 * 2 = 10 semi-annual payents

cpn = 50

FV = 1000

r = 0.0425

Capital gains yield = Price₁/Price - 1

Capital gains yield = 1,060.0816525552/1,069.3779618121 - 1

Capital gains yield = -0.008693193229

Capital gains yield = -0.8693193229%