Suppose the 8% coupon, 30-year maturity bond sells for $1,150 and is callable in 10 years at a call...

Yield to Call

Suppose the 8% coupon, 30-year maturity bond sells for $1,150 and is callable in 10 years at a call price of $1,100. Its yield to maturity and yield to call would be calculated using the following inputs:

	Yield to Call	Yield to Maturity
Coupon payment	$40	$40
Number of semiannual periods	20 periods	60 periods
Final payment	$1,100	$1,000
Price	$1,150	$1,150

Yield to call is then 6.64%. [To confirm this on your calculator, input n = 20; PV =

(-)1,150; FV = 1100; PMT = 40; compute i as 3.32%, or 6.64% bond equivalent yield].

Yield to maturity is 6.82%. [To confirm, input n = 60; PV = (-)1,150; FV = 1000; PMT = 40; compute i as 3.41% or 6.82% bond equivalent yield. In Excel, you can calculate yield to call as =YIELD(DATE(2000,01,01), DATE(2010,01,01), .08, 115, 110, 2). Notice that redemption value is input as 110, i.e., 110% of par value.]. We have noted that most callable bonds are issued with an initial period of call protection. In addition, an implicit form of call protection operates for bonds selling at deep discounts from their call prices. Even if interest rates fall a bit, deep-discount bonds still will sell below the call price and thus will not be subject to a call. Premium bonds that might be selling near their call prices, however, are especially apt to be called if rates fall further. If interest rates fall, a callable premium bond is likely to provide a lower return than could be earned on a discount bond whose potential price appreciation is not limited by the likelihood of a call. Investors in premium bonds often are more interested in the bond’s yield to call rather than yield to maturity as a consequence, because it may appear to them that the bond will be retired at the call date.