Bond returns If a bond’s yield to maturity does not change, the return on the bond each year will be equal to the yield to maturity. Confirm this with a simple example of a four-year bond selling at a premium to face value. Now do the same for a four-year bond selling at a discount. For convenience, assume annual coupon payments.
To discuss: Illustrate on return on bond equals yield to maturity (YTM).
Explanation of Solution
4-year bond selling at a premium to face value and the 3% coupon bond is 2%.
If the yield to maturity remain same, 1 year later the bond will sell as follows:
Calculation of interest rate:
Thus, the interest rate equals yield to maturity.
To discuss: Illustrate on return on bond equals yield to maturity (YTM).
Explanation of Solution
4-year bond selling at discount to face value and the 3% coupon bond is 4%.
If the yield to maturity remain same, 1 year later the bond will sell as follows:
Calculation of interest rate:
Thus, the interest rate equals yield to maturity.
Thus, the interest rate equals yield to maturity.
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Chapter 3 Solutions
Principles of Corporate Finance
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