Question

A firm's bonds have a maturity of 10 years with a $1,000 face value, have an 8% semiannual coupon, are callable in 5 years at $1,052.99, and currently sell at a price of $1,103.16.

What is their nominal yield to maturity? Do not round intermediate calculations. Round your answer to two decimal places.

  %

What is their nominal yield to call? Do not round intermediate calculations. Round your answer to two decimal places.

  %

What return should investors expect to earn on these bonds?

1. Investors would expect the bonds to be called and to earn the YTC because the YTC is less than the YTM.
2. Investors would expect the bonds to be called and to earn the YTC because the YTM is less than the YTC.
3. Investors would expect the bonds to be called and to earn the YTC because the YTC is greater than the YTM.
4. Investors would not expect the bonds to be called and to earn the YTM because the YTM is greater than the YTC.
5. Investors would not expect the bonds to be called and to earn the YTM because the YTM is less than the YTC.

Answer 1

Given the following information,

Case 1:

Annual Time period = 10 years

Number of compounding periods = Semiannual = 2

Number of payments NPER = 10*2 = 20

Face value = 1000

Coupon rate = 8% = 0.08

Current price = 1103.16

We know that

Coupon payment PMT = (Coupon rate*face value)/ Number of compounding periods

Coupon payment = (0.08*1000)/ 2

Coupon payment = (80)/ 2

Coupon payment = 40

Calculation of YTM using excel,

Therefore, nominal yield to maturity = 0.0658*100 = 6.58%

Case 2:

Callable in 5 years at 1052.99

Number of compounding periods = Semiannual = 2

Number of payments NPER = 5*2 = 10

Current price = 1103.16

Coupon rate = 8% = 0.08

Calculation of YTC using excel,

Therefore, nominal yield to call = 0.0647*100 = 6.47%

Thus,

Investors would expect the bonds to be called and to earn the YTC because the YTC is less than the YTM

Ans I is correct