McCue Inc.'s bonds currently sell for $1,250. They pay a $120 annual coupon, have a 15-year maturity, and a $1,000 par value, but they can be called in 5 years at $1,050. Assume that no costs other than the call premium would be incurred to call and refund the bonds, and also assume that the yield curve is horizontal, with rates expected to remain at current levels on into the future. What is the difference between this bond's YTM and its YTC? (Subtract the YTC from the YTM.)

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Quizplus · Accepted Answer

The YTM is the yield to maturity, which is the annual rate of return an investor can expect to receive if they hold the bond until maturity. The YTC is the yield to call, which is the annual rate of return an investor can expect to receive if the bond is called in 5 years. The difference between the YTM and the YTC is the call premium, which is the amount of money the investor will receive if the bond is called. In this case, the call premium is $50 ($1,050 - $1,000). The YTM is 9.6% ($120 / $1,250), and the YTC is 7.29% ($120 / $1,050). Therefore, the difference between the YTM and the YTC is 2.31% (9.6% - 7.29%).

McCue Inc'S Bonds Currently Sell for $1,250