Arnot international\'s bonds have a current market price of $1,200. The binds ha

Question

Arnot international's bonds have a current market price of $1,200. The binds have an 11% annual coupon payment, a $1,000 face value, and 10 years left until maturity.the bonds may be called in 5 years at 109% of face value(call price = $1,090).

need to know the yield to maturnity? what is the yield to call if they called in 5 years?

and the last one is the bond's indenture indicates taht the call provision gives the firm the right to call them at the end of each year begining in years 5. in year 5, they may be called at 109% of face value, but in each of the next 4 years the call percentage will decline by 1 percentage point. thus, in year 6 they may be called at 108% of face value, in year7 they may be called at 107% of face value, and so on. if the yield curve is horizontal and interest rates remain at their current level, when is the latest that investors might expect the firm to call the bonds?

Explanation / Answer

We have nper = 10 Yrs, Present Value of Bond PV = $1200, Maturity valueFV = $1000 PMT = 11%*$1000 = $110 We have YTM = Rate(nper,PMT,PV,FV) YTM = RATE(10,110,-1200,1000) = 8.02%......Ans (1) For YTC at Y5, We have nper = 5 Yrs, Present Value of Bond PV = $1200, Maturity valueFV = $1000*1.09 = $1090 PMT = 11%*$1000 = $110 We have YTC = Rate(nper,PMT,PV,FV) YTC = RATE(5,110,-1200,1090) = 7.59%......Ans (2) For YTC at Y6, We have nper = 4 Yrs, Present Value of Bond PV = $1200, Maturity valueFV = $1000*1.08 = $1080 PMT = 11%*$1000 = $110 We have YTC = Rate(nper,PMT,PV,FV) YTC = RATE(4,110,-1200,1080) = 6.91%......Ans (3) For YTC atY7, We have nper = 3 Yrs, Present Value of Bond PV = $1200, Maturity valueFV = $1000*1.07 = $1070 PMT = 11%*$1000 = $110 We have YTC = Rate(nper,PMT,PV,FV) YTC = RATE(3,110,-1200,1070) = 5.76%......Ans (4) For YTC atY8, We have nper = 2 Yrs, Present Value of Bond PV = $1200, Maturity valueFV = $1000*1.06 = $1060 PMT = 11%*$1000 = $110 We have YTC = Rate(nper,PMT,PV,FV) YTC = RATE(2,110,-1200,1060) = 3.43%......Ans (5) For YTC at Y9, We have nper = 1 Yrs, Present Value of Bond PV = $1200, Maturity valueFV = $1000*1.05 = $1050 PMT = 11%*$1000 = $110 We have YTC = Rate(nper,PMT,PV,FV) YTC = RATE(1,110,-1200,1050) = -3.33%......Ans (6) The true yield of a callable bond at any given price is usually lower than its yield to maturity because the call provisions limit the bond's potential price appreciation -- when interest rates fall, the price of a callable bond will not go any higher than its call price. This is because the issuer should act in the best interests of the company and call the bond as soon as it is favorable to do so. As a result, investors usually consider the lower of the yield to call and the yield to maturity as the more realistic indication of the return an investor will actually receive on a callable bond. Some investors go a step further and calculate the yield to call not just for the first call date, but for all possible call dates. Then the investor compares all the calculated yields to call and yields to maturity and relies on the lowest of them, called the yield to worst. So here the Firm may call the bond in 9th year.

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