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Fundamentals of Financial Manageme...

15th Edition
Eugene F. Brigham + 1 other
ISBN: 9781337395250

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BuyFindarrow_forward

Fundamentals of Financial Manageme...

15th Edition
Eugene F. Brigham + 1 other
ISBN: 9781337395250
Textbook Problem

BOND YIELDS Last year Carson Industries issued a 10-year, 13% semiannual coupon bond at its partial differential value of $1,000. Currently, the bond can be called in 6 year at a price of $1,065 and its sells for $1,200.

  1. a. What are the bond’s nominal yield to maturity and its nominal yield to call? Would an investor be more likely to earn YTM or the YTC?
  2. b. What is the current yield? Is this yield affected by whether the bond is likely to be called? (Hint: Refer to footnote 6 for the definition of the current yield and to Table 7.1.)
  3. c. What is the expected capital gains (or loss) yield for the coming year? Is this yield dependent on whether the bond is expected to be called? Explain your answer.

a)

Summary Introduction

To determine: Yield to Maturity (YTM), Yield to Call (YTC) and whether the YTM or YTC is more for the investors.

Introduction:

Yield to Maturity (YTM) refers to the total return expected on the bond till it matures.

Yield to Call refers to the yield of the bond if the investor buys and holds the stock or security till the call date. This yield is considered valid if the security is called only before the maturity.

Explanation

The formula to calculate the coupon Pmt:

Coupon Pmt=C×FVn

Where,

C is coupon rate

FV is face value

n is number of payments per year.

Given information:

Semiannual coupon rate is 13% (6.5% annually), selling price (value of bond) is $1,200, par value of bond is $1,000, and maturity is after 10 years. The bond may be called in 6 years at $1,065.

Compute coupon Pmt:

Coupon Pmt=C×FVn=13%×$1,0002=$65

Hence, coupon Pmt is $65.

Compute yield to maturity:

Particulars
Years20
Coupon rate6.5%
Coupon Pmt$65.00
Present value($1,200)
Face value$1,000
Yield to maturity0

b)

Summary Introduction

To determine: Current yield, and effect on current yield of bond to be called.

Introduction:

The annual return earned by the current price and annual coupon payment is termed as current yield

c)

Summary Introduction

To determine: Expected capital gain or loss yield for coming year and it depends on whether the bond is expected to be called.

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