Effective annual yield: Stanley Hart invested in a state government bond that promised an annual yield of 6.7 percent. The bond pays coupons twice a year. What is the effective annual yield (EAY) on this investment?
A) 13.4%
B) 6.81%
C) 6.70%
D) None of the above

Question

Quizplus · Accepted Answer

The effective annual yield (EAY) takes into account the effect of compounding over the year. In this case, since the bond pays coupons twice a year, we can use the semi-annual yield to calculate the EAY. The semi-annual yield is calculated as (1 + annual yield)^(1/2) - 1, which gives us (1 + 0.067)^(1/2) - 1 = 0.0335. The EAY is then calculated as (1 + 0.0335)^2 - 1 = 0.0681 or 6.81%. Therefore, the best choice is B.

Effective Annual Yield: Stanley Hart Invested in a State Government