FINRA Series 7Investment Information and Suitable RecommendationsHard
A 6% corporate bond with 10 years to maturity is callable in 5 years at 103. The bond is currently priced at $1,050. Using the approximate yield to call formula, what is the bond's approximate yield to call?
- A5.38%
- B4.85%
- C6.00%
- D5.71%
Show answer & explanationAnswer & explanation
Correct answer: A. 5.38%
Approximate YTC = [Annual interest + (Call price − Market price)/Years to call] ÷ [(Call price + Market price)/2]. Annual interest = $60; (1,030 − 1,050)/5 = −4; numerator = 60 − 4 = 56. Average price = (1,030 + 1,050)/2 = 1,040. YTC = 56/1,040 = 5.38%.
Why the other options are wrong
- B. Incorrect — understates yield by using wrong denominator or numerator.
- C. Incorrect — this is simply the coupon rate, not accounting for price and call premium.
- D. Incorrect — overstates yield; likely omitted the call premium adjustment.
Approximate Yield to Call (YTC)
YTC estimates a bond's return if held until the call date, factoring in the call price, purchase price, coupon, and years to call using the approximate yield formula.
- Formula: [Interest + (Call price − Price)/Years] ÷ [(Call price + Price)/2]
- Used for bonds trading at a premium likely to be called
- YTC is typically lower than YTM for premium bonds
- Call price often above par (e.g., 103 = $1,030)
Memory trick: YTC: 'Coupon minus the call haircut, over the average.'