Problem: An investor must choose between two bonds with par values of $1,000:
Bond A pays $80 annual interest and has a market value of $800. It has 10 years to maturity. Bond B pays $85 annual interest and has a market value of $900. It has two years to maturity.
1) Compute the current yield on both bonds.
2) Which bond should he select based on your answer to Part (1)?
3) A drawback of current yield is that it does not take into consideration the total life of the bond. For example, the approximate yield to maturity on Bond A is 11.36 percent. What is the approximate yield to maturity on Bond B?
4) Has your answer changed between parts (2) and (3) of this question in terms of which bond to select?