A bond investor is analyzing the following annual coupon bonds:

Issuing Company Annual Coupon Rate
Irwin, LLC 6%
Johnson Corporation 12%
Smith Incorporated 9%

Each bond has 10 years until maturity and the same level of risk. Their yield to maturity (YTM) is 9%. Interest rates are assumed to remain constant over the next 10 years.
(A) Based on the above information, which of the following statements are true? Check all that apply.

a. The current yield for Johnson's bonds is greater than 9%.
b. The current yield for Johnson's bonds is between 0% and 9%.
c. Johnson's bonds have the highest expected total return.
d. Smith's bonds are selling at par.

(B) If a bond is selling for a price much lower than its par value, it is most likely that the bond is bond.

PART (A)

A - TRUE

Explanation:

Johnson Corporation's Coupon rate is 12% and the yield to maturity (YTM) of the bond is 9%. If the Coupon rate is greater than the YTM, the bond is trading at a premium, that is, its current price is greater than its par value.

FV = $1000

N = 10 Years

YTM = 9%

PMT = 12% x $1000 = $120

PV = ??

We calculate the PV (the current price) using a financial calculator

PV = Current Price = $1192.53

Current yield = (Annual Coupon Payment / Current market price) x 100

Current yield = ($120 / $1192.53) x 100 = 10.0626 %

The Current Yield for Johnson's bonds is greater than 9%

B - FALSE

Explanation:

The current yield of Johnson's bonds is 10.06% and therefore does not lie in the range between 0% and 9%

C - TRUE

Explanation:

Johnsons bonds have the highest total return becasue they ahve the highest coupon rate which is greater than the YTM, thei bons trade at a premium.

D - TRUE

Explanation:

When YTM = Coupon rate, the bonds current price is equal to its par value.

PART (B)

If a bond is selling for a price much lower than its par value, it is most likely that the bond is trading for a discount bond.

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