Question

A company releases a five-year bond with a face value of $1000 and coupons paid semiannually. If market interest rates imply a YTM of 4%, which of the following coupon rates will cause the bond to be issued at a premium? O A. 1% OB. 4% O C. 2% OD. 6%

Answer 1

Answer:

Opion (D) 6% is correct

A bond’s coupon rate is the amount of interest income it earns each year based on its face value. A bond’s yield to maturity is its total estimated return if the bond is held until maturity.

When coupon rate of a bond is equal to the YTM at issue, bond is issued at par value.

When coupon rate of a bond is lower than the YTM at issue, bond is issued at a discount (relative to par value).

When coupon rate of a bond is higher than the YTM at issue, bond is issued at a premium (relative to par value).

In this question, only 6% is higher than YTM of 4%, hence that is our answer. At a coupon rate of 4%, bond would have been issued at par. At a coupon rate of 1% and 2%, bond would have been issued at discount (since YTM > coupon rate in these cases).