Question

An investor has two bonds in his portfolio that have a face value of $1,000 and pay an 11% annual coupon. Bond L matures in 13 years, while Bond S matures in 1 year. What will the value of the Bond L be if the going interest rate is 7%, 9%, and 12%? Assume that only one more interest payment is to be made on Bond S at its maturity and that 13 more payments are to be made on Bond L. Round your answers to the nearest cent. 7% 9% 12% Bond L $ $ $ Bond S $ $ $ Why does the longer-term bond’s price vary more than the price of the shorter-term bond when interest rates change? Long-term bonds have lower reinvestment rate risk than do short-term bonds. The change in price due to a change in the required rate of return increases as a bond's maturity decreases. Long-term bonds have greater interest rate risk than do short-term bonds. The change in price due to a change in the required rate of return decreases as a bond's maturity increases. Long-term bonds have lower interest rate risk than do short-term bonds.

Answer 1

I have solved this question on Excel sheet kindly see below image for solution part.

The valuation of Bond 'S' is solved below kindly refer the attached image.

From the above calculation we have seen that the prices of bonds with long-term maturity vary more than the short term bonds, this is because the bonds with longer maturity have more interest rate risk than the shorter term bonds and we that more risk comes with more return. That's the reason behind the more volatility of long term maturity bonds with the change in the interest rates.