Question

28- The yield to maturity on a bond is I. above the coupon rate when the bond sells at a discount, and below the coupon rate when the bond sells at a premium II. the discount rate that will set the present value of the payments equal to the bond price fil. equal to the true compound return on investment only if all interest payments received are reinvested at the current yield A. I only B. II only C. I and II only D. I, II and III

Answer 1

Yield to maturity on a bond is calculated using present value concepts and reflects the bond's rate of return if held to maturity, factoring in purchase price, face value, and coupon payments. It is indeed higher than the coupon rate if the bond is sold at a discount and lower if sold at a premium.

Step-by-step explanation:

The question is asking about the relationship between the yield to maturity (YTM) on a bond, its coupon rate, and whether the bond is being sold at a premium or discount. The YTM is above the coupon rate when the bond sells at a discount, and below the coupon rate when the bond sells at a premium. This is because YTM is the rate of return anticipated on a bond if it is held until the maturity date, taking into account the present value of all future coupon and principal payments. The present value of these payments becomes equal to the bond price when the discount rate applied is the yield to maturity.

Additionally, the YTM is equal to the true compound return on investment only if all interest payments received are reinvested at the YTM itself. This reinvestment allows for compound interest to work in the investor's favor, contributing to the overall return on the bond investment. Therefore, statement III is also an accurate representation of the concept of YTM.

Given this information, the correct answer to the question would be D. I, II, and III, which indicates that each of the three statements is a true description of yield to maturity.

Answer 2

The yield to maturity (YTM) on a bond is higher than the coupon rate when the bond sells at a discount, lower than the coupon rate when the bond sells at a premium, and is equal to the true compound return on investment only if all interest payments received are reinvested at the current yield. The correct option is (D).

Step-by-step explanation:

The correct answer is D. I, II, and III.

When the bond sells at a discount, the yield to maturity (YTM) is above the coupon rate. This means that the bond is offering a higher return than the stated coupon rate because it is priced below its face value.

On the other hand, when the bond sells at a premium, the YTM is below the coupon rate. This means that the bond is offering a lower return than the stated coupon rate because it is priced above its face value.

The YTM is also referred to as the discount rate that will set the present value of the bond's payments equal to the bond price. It takes into account the bond's face value, coupon rate, and maturity date to determine the present value of its future cash flows.

Lastly, the YTM is equal to the true compound return on investment only if all interest payments received are reinvested at the YTM.