Problem
Jenna bought a bond that was issued by Sherlock Watson Industries (SWI) three years ago. The bond has a $1,000 maturity value, a coupon rate equal to 9 percent, and it matures in 17 years. Interest is paid every six months; the next interest payment is scheduled for six months from today.
Suppose that Jenna decides she wants to sell the bond seven years from today when 10 years remain until maturity. If the market rate is 8 percent at the time she sells the bond in seven years, for what price will Jenna be able to sell the bond? Compute the capital gains yield, current yield, and total yield that the new investor will earn if he or she holds the bond until it matures 10 years later.
Explain why the capital gains yield is negative each year to maturity. Assume that the market rate does not change from the time Jenna sells the bond until it matures.