Question

Consider two $10,000 face value corporate bonds. Bond A is currently selling for $9,980 and matures in 15 years. The Bond B sells for $9,350 and matures in 3 years. a) Calculate the current yield as a percentage to 2 decimal places for both bonds if both have a coupon rate equal to 5%. Bond A % Bond B % b) Calculate the yield to maturity as a percentage to 2 decimal places for both bonds if both have a coupon rate equal to 5%. Bond A % Bond B % Which current yield is a better approximation of the yield to maturity, A or B

Answer 1

Solution :

Current yield of the Bond if the bonds are selling at a price of $ 9980.

Current yield = annual coupon amount / current selling price

Current yield $=\frac{10000 \times 5\%}{9980}$

                     $=\frac{500}{9980}$

                     = 0.0501

                     = 5.01 %

The current yield of a bond if the bonds are selling at $ 9350

Current yield = annual coupon amount / current selling price

Current yield $=\frac{10000 \times 5\%}{9350}$

                     $=\frac{500}{9350}$

                     = 0.0535

                     = 5.35 %