A 3.20 percent coupon municipal bond has 10 years left to maturity and has a pri

Question

A 3.20 percent coupon municipal bond has 10 years left to maturity and has a price quote of 96.45. The bond can be called in four years. The call premium is one year of coupon payments. (Assume interest payments are semiannual and a par value of $5,000.) Compute the bond’s current yield. (Round your answer to 2 decimal places.) Current yield % Compute the yield to maturity. (Round your answer to 2 decimal places.) Yield to maturity % Compute the taxable equivalent yield (for an investor in the 35 percent marginal tax bracket). (Round your answer to 2 decimal places.) Equivalent taxable yield %

Explanation / Answer

Answer

1

The bond’s current yield:

CY = Annual interest payment / Current Bond Price

CY =3.20/96.45*100

CY =3.32

2.

The yield to maturity:

=Approx YTM =[C + (F-P)/n] / (F+P) / 2

=[3.20+ (100-96.45)/20 ] / (100+96.45)/2

=[3.20+ (100-96.45)/20 ] / 196.45/2

=3.20+0.1775 / 98.225

=3.3775 / 98.225

=3.44%

3.

The taxable equivalent yield:

Mun. Bond YTM/ (1-Tax rate)

= 3.63%/(1-0.35)

= 5.58%

The current yield is higher than the coupon rate because this is currently a discount bond. This is also shown by the YTM, which is greater than the coupon rate. The YTC is comparatively high, but it is currently unlikely that the bond will be called early since interest rates have risen.

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