Question

Your broker offers you the opportunity to purchase a bond with coupon payments of $90 per year and a face value of $1,000. If the yield to maturity on similar bonds is 8%, this bond should: A) Sell for the same price as the similar bond regardless of their respective maturities. B) Sell at a premium. C) Sell at a discount. D) Sell for either a premium or a discount but it's impossible to tell which. E) Sell for par value.

Answer 1

Calculation of coupon rate

= Interest / Par value x 100

= $90 / $1000 x 100

= 9%

Yield to Maturity = 8% ( Given)

The Coupon rate is greater than the YTM, accordingly answer is B) Sell at a premium.

Note: In the given cases, the coupon rate is more that the yield to Maturity of the bond, which means that the company is offering more return as compare to the required rate of return of investors. Accordingly, the demand of bond is higher and the price of bond is above its par value.