$(5-22)$

Yield to Maturity and Yield to Call

Arnot International$$s bonds have a current market price of $$1,200.$ The bonds 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).$

What is the yield to maturity?

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What is the yield to call if they are called in $5$ years?

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Which yield might investors expect to earn on these bonds, and why?

The bond$$s indenture indicates that the call provision gives the firm the right to call them at the end of each year beginning in Year $5.$ 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 Year $7$ 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?