Question

Compare the yield to maturity and the current yield. How do you explain this​ relationship?  ​(Select the best​ response.)A.If a bond sells at a​ discount, the yield to maturity is greater than the current yield.B.If a bond sells for its par​ value, the yield to maturity is greater than the current yield.C.If a bond sells at a​ premium, the yield to maturity is greater than the current yield.D.There is no certain relationship between the yield to maturity and the current yield.

Answer 1

Answer:

A - If a bond sells at a​ discount, the yield to maturity is greater than the current yield

Explanation:

Yield to maturity is the expected return if the bond is held till maturity. Current yiled is the return if the bond is sold today. There is an evident relationship between yield to maturity (TYM) and the current yield.  

“When a bond's market price is above par, which is known as a premium bond, its current yield and YTM are lower than its coupon rate. Conversely, when a bond sells for less than par, which is known as a discount bond, its current yield and YTM are higher than the coupon rate. Only on occasions when a bond sells for its exact par value are all three rates identical” (Bloomenthal, 2020).

According to the above statements, options C, B and D are eliminated. This leaves option A (If a bond sells at a discount, the yield to maturity is greater than the current yield) as the correct answer. This is true because YTM is calculated on purchase price rather than par value, if the purchase price is less than par value, the YTM will be greater than the current yield.