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Yield to Maturity (YTM). Indicate whether each of the following actions will increase or decrease a...

Yield to Maturity (YTM). Indicate whether each of the following actions will increase or decrease a bond YTM: (5 points)

1a. The bond’s price increases.

b. The bond is downgraded by the rating agencies.

c. A change in the bankruptcy code makes it more difficult for the bondholders to receive payments in the event the firm declares bankruptcy.

d. The economy seems to be shifting from a boom to a recession.

e. Investors learn that the bonds are subordinated to another debt issue.

Solutions

Expert Solution

A) The relation between the bond price and YTM is inverse. Hence increase in the bond price will result in decrease in bond's YTM.

B) Downgrading of bond will increase its riskiness as it reflects week credit strength of the Bond issuer. Hence the bond investor will demand higher return for high risk. Therefore the downgrading of bond by the rating agencies will result in increase in bond's YTM.

C) Making it more difficult for bondholders to receive payments in the event the firm declares bankruptcy will make bonds less attractive to investor. Hence to attract more invest, it has to offer higher yield. Therefore it will result in increase in bond's YTM

D) The bond will offer a lower yield if the economy shifts from boom to recession. Hence it will result in decrease in bond's YTM

E) If investor learn that the bonds are subordinated to other debt issue, they will have higher risk as in case of default, they will be paid latter than the senior bonds, hence to invest in such subordinate bonds, they will demand higher yield. Hence it will result in increase in bond's YTM.

jeff jeffy answered 2 years ago
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