A 22 year, 6.40% bond is quoted at a 6.50% basis. What is the order of yields, from highest to lowest?
(a) Current, nominal, yield to maturity, yield to call
(b) Yield to call, yield to maturity, current, nominal
(c) Nominal, current, yield to call, yield to maturity
(d) Yield to maturity, yield to call, current, nominal
I am struggling to wrap my mind around this question and its implications. The explanation provided in the quiz does not explain the answer well.
When a bond’s basis, or yield to maturity (YTM), is higher than the coupon (YTM = 6.50%, coupon = 6.40%), it must be trading at a discount (some price below par). The investor earns the discount over the life of the bond plus the interest rate; the YTM reflects both returns combined (the coupon only represents the interest). The order of yields for a discount bond, from highest to lowest is yield to call (YTC), yield to maturity (YTM), current yield, and nominal yield.
I understand the reason why current yield and nominal yield are last, However, I am not getting why yield to call would have a higher yield than yield to maturity. Could you please help me understand? It seems to me that if called you would lose some of the potential gains when called, and that You would lose the amount you paid over par of called early.
