Problem:

It is now January 1, 2012, and you are considering the purchse of an oustanding bond that was issued on January 1, 2010. It has a 9.5% annual coupon and had a 30-year original maturity. (It matures on December 31, 2039). There is 5 years of call protection (until December 31, 2014), after which time it can be called at 109--that is, at 109% of par, or $1,090. Interest rates have declined since it was issued; and it is now selling at 116.575% of par, or $1,165.75.

Required:

Question 1: What is the yield to maturity? What is the yield to call?

Question 2: If you bought this bond, which return would you actually earn? Explain your reasoning.

Question 3: Suppose the bond had been selling at a discount rather than a premium. Would the yield to maturity have been the most likely return, or would the yield to call have been most likely?

Note: Provide support for your underlying principle.