Mr. Adeyemi buys a bond with a 4 percent coupon at a price of 92 (920 dollars), and the bond is callable at par. Because he purchased at a discount, his representative reviews how the nominal yield, current yield, yield to maturity, and yield to call rank against one another. Ordered from lowest to highest, which sequence is correct?
- AYield to call, then yield to maturity, then current yield, then nominal yield
- BCurrent yield, then nominal yield, then yield to maturity, then yield to call
- CNominal yield, then current yield, then yield to call, then yield to maturity
- DNominal yield, then current yield, then yield to maturity, then yield to call Correct
Why A is wrong: This is the ranking for a premium bond, where every yield falls below the coupon. For a discount bond the order is reversed, so placing the nominal yield highest and the yield to call lowest is exactly backwards.
Why B is wrong: On a discount bond the current yield is higher than the nominal yield, because dividing the coupon by a price below par raises the yield. Listing current yield below nominal reverses these two.
Why C is wrong: The first two terms are right for a discount bond, but on a discount bond called at par the yield to call is the highest, not the yield to maturity, because the discount is captured in fewer years. This swaps the top two.
Why D is correct: On a discount bond price sits below par, so current yield exceeds the nominal coupon; yield to maturity exceeds current yield by adding the gain to par; and yield to call exceeds yield to maturity because a call at par realises that gain sooner. Lowest to highest is nominal, current, maturity, call.