a. Determine the current market prices of the following $1,000 bonds if the comparable rate is 10 percent and answer the following questions.
XY 5 1/4 percent (interest paid annually) for 20 years
AB 14 percent (interest paid annually) for 20 years
b. Which bond has a current yield that exceeds the yield to maturity? (show calculations)
c. Which bond may you expect to be called? Why?
d. If there is a CD bond with a 5 1/4 percent coupon and a maturity of 20 years but which was lower rated, what would be its price relative to the XY bond? Explain.
c. Since the CD and XY bonds are identical with regard to interest paid and term to maturity, the factor that differentiates them is the credit rating. The CD bond has a lower credit rating, so its value relative to the XY bond should be less. Such a lower price will increase the yield to the investor and presumably would be necessary to induce the investor to purchase the riskier bond.