Question

A bond has a par value of $1,000, a time to maturity of 10 years, and a coupon rate of 8% with interest paid annually. If the current market price is $750, what is the capital gain yield of this bond over the next year?

A) .72%

B) 1.85%

C) 2.58%

D) 3.42%

Answer 1

Given about a bond,

Face value = $1000

coupon rate = 8% paid annually

years to maturity = 10 years

Market price of the bond = $750

So, annual coupon payment = 8% of 1000 = $80

Yield to maturity of the bond can be calculated on financial calculator using following values:

FV = 1000

PV = -750

PMT = 80

N = 10

Compute for I/Y, we get I/Y = 12.52

So, YTM of the bond = 12.52%

So, next year, years to maturity = 9

Price of the bond can be calculated on financial calculator using following values:

FV = 1000

I/Y = 12.52

PMT = 80

N = 9

Compute for PV, we get PV = -763.89

So, new price of the bond = $763.89

So, capital gain yield of this bond over the next year = (new price - old price)/old price = (763.89-750)/750 = 1.85%

Option B is correct.