1.

7-4: Bond Yields

Yield to call

Seven years ago the Singleton Company issued 22-year bonds with a 12% annual coupon rate at their $1,000 par value. The bonds had a 7% call premium, with 5 years of call protection. Today Singleton called the bonds.

1. Compute the realized rate of return for an investor who purchased the bonds when they were issued and held them until they were called. Round your answer to two decimal places. %
2. Explain why the investor should or should not be happy that Singleton called them.
   1. Since the bonds have been called, interest rates must have risen sufficiently such that the YTC is greater than the YTM. If investors wish to reinvest their interest receipts, they can now do so at higher interest rates.
   2. Since the bonds have been called, interest rates must have risen sufficiently such that the YTC is greater than the YTM. If investors wish to reinvest their interest receipts, they must do so at lower interest rates.
   3. Since the bonds have been called, investors will receive a call premium and can declare a capital gain on their tax returns.
   4. Since the bonds have been called, investors will no longer need to consider reinvestment rate risk.
   5. Since the bonds have been called, interest rates must have fallen sufficiently such that the YTC is less than the YTM. If investors wish to reinvest their interest receipts, they must do so at lower interest rates.
   -Select-IIIIIIIVVItem 2

2.

7-4: Bond Yields Problem Walk-Through

Bond yields

One year ago Clark Company issued a 10-year, 15% semiannual coupon bond at its par value of $1,000. Currently, the bond can be called in 6 years at a price of $1,075, and it now sells for $1,280.

1. What is the bond's nominal yield to maturity? Round your answer to two decimal places. % What is the bond's nominal yield to call? Round your answer to two decimal places. % Would an investor be more likely to earn the YTM or the YTC? -Select-Since the coupon rate on the bond has declined, the bond is not likely to be called.Since the YTM is above the YTC, the bond is likely to be called.Since the YTC is above the YTM, the bond is likely to be called.Since the YTM is above the YTC, the bond is not likely to be called.Since the YTC is above the YTM, the bond is not likely to be called.Item 3
2. What is the current yield? (Hint: Refer to Footnote 7 for the definition of the current yield and to Table 7.1.) Round your answer to two decimal places. % Is this yield affected by whether the bond is likely to be called?
   1. If the bond is called, the current yield and the capital gains yield will both be different.
   2. If the bond is called, the current yield and the capital gains yield will remain the same but the coupon rate will be different.
   3. If the bond is called, the current yield will remain the same but the capital gains yield will be different.
   4. If the bond is called, the current yield and the capital gains yield will remain the same.
   5. If the bond is called, the capital gains yield will remain the same but the current yield will be different.
   -Select-IIIIIIIVVItem 5
3. What is the expected capital gains (or loss) yield for the coming year? Round your answer to two decimal places. % Is this yield dependent on whether the bond is expected to be called?
   1. If the bond is not expected to be called, the appropriate expected total return is the YTC.
   2. If the bond is expected to be called, the appropriate expected total return will not change.
   3. The expected capital gains (or loss) yield for the coming year depends on whether or not the bond is expected to be called.
   4. The expected capital gains (or loss) yield for the coming year does not depend on whether or not the bond is expected to be called.
   5. If the bond is expected to be called, the appropriate expected total return is the YTM.
   -Select-IIIIIIIVVItem 7