Question

Harold Reese must choose between two bonds:

Bond X pays $79 annual interest and has a market value of $860. It has 12 years to maturity.
Bond Z pays $89 annual interest and has a market value of $820. It has six years to maturity.
Assume the par value of the bonds is $1,000.

a. Compute the current yield on both bonds. (Do not round intermediate calculations. Input your answers as a percent rounded to 2 decimal places.)


Current Yield
Bond X %
Bond Z %


b. Which bond should he select based on your answers to part a?


Bond Z
Bond X


c. A drawback of current yield is that it does not consider the total life of the bond. For example, the approximate yield to maturity on Bond X is 9.90 percent. What is the approximate yield to maturity on Bond Z? The exact yield to maturity? (Use the approximation formula to compute the approximate yield to maturity and use the calculator method to compute the exact yield to maturity. Do not round intermediate calculations. Input your answers as a percent rounded to 2 decimal places.)


Approximate yield to maturity %
Exact yield to maturity %



d. Has your answer changed between parts b and c of this question?


No
Yes

Answer 1

PartA.

Current Yiled = Coupon AMount / Bond Price

Bond X = 79 / 860

= 0.0919 i.e 9.19%

Bond Z = 89/ 820

= 01085 i.e 10.85%

Part B:

Select Bond Z based on CUrrent Yield ( Higher Current Yield)

Part C:

Bond X YTM

YTM = Rate at which least +ve NPV + [ NPV at that rate / Change in NPV due to inc of 1% in int rate ] * 1%

= 9% + [ 61.23 / 64.32 ] * 1%

= 9% + 0.95%

= 9.95%

Bond Z YTM:

YTM = Rate at which least +ve NPV + [ NPV at that rate / Change in NPV due to inc of 1% in int rate ] * 1%

= 13% + [ 16.10 / 74.42 ] * 1%

= 13% + 0.22%

= 13.22%

Part D:

Select Bond Z based on YTM also (Higher YTM) Answer is not changed.