Question

An investor must choose between two bonds:

Bond A pays $83 annual interest and has a market value of $750. It has 14 years to maturity.

Bond B pays $95 annual interest and has a market value of $810. It has nine years to maturity.

Assume the par value of the bonds is $1,000.

a. Compute the current yield on both bonds. (Do not round intermediate calculations. Input your answers as a percent rounded to 2 decimal places.)
  

b. Which bond should she select based on your answers to part a?
  

	Bond B
	Bond A

c. A drawback of current yield is that it does not consider the total life of the bond. For example, the approximate yield to maturity on Bond A is 11.87 percent. What is the approximate yield to maturity on Bond B? The exact yield to maturity? (Use the approximation formula to compute the approximate yield to maturity and use the calculator method to compute the exact yield to maturity. Do not round intermediate calculations. Input your answers as a percent rounded to 2 decimal places.)
  

d. Has your answer changed between parts b and c of this question in terms of which bond to select?
  

	No
	Yes

Answer 1

a.

Current yield is calculated as:

So, for Bond A

or 11.07%

And, for Bond B

or 11.73%

b.

Bond B as it offers a higher current yield

c.

The formula to calculate approximate YTM is:

Where

• C is coupon payment
• F is the face value
• P is the market price
• n is the time till maturity

For Bond B

or YTM = 12.83%

The exact yield has to be computed using excel. In excel, it can be computed using the IRR function as shown below:

d.

No, the answer hasn't changed as B has a higher YTM as well.