Question

Two of the following four statements are false. Identify all the false statements. Explain why according to you, the statements are false:

A) If the govt bond yield curve shifts up then the government bond prices will increase

B) Consider two bonds A and B with same: maturity, face value, yield and coupon rates but different coupon frequencies. If Bond A pays annual coupons and Bond B pays semi annual coupons. It must be true that the price of Bond B is less sensitive to changes in interest rates.

C) In 2020, for the most part, the real short-term interest rates (less than 10 Year Maturity) in the United States have been positive but close to zero.

D) If the rate at which our money in the bank grows is less than the rate at which prices grow, it implies that the real interest rates must be negative.

Answer 1

A) Statement is False. The price of bond is inversely proprtionate to the yield of bond. Hence, in case the govt bond yield curve shifts up then the government bond prices will decrease.

B) Statement is False. As we know that Bond with longer term to maturity or more number of cash flows is more sensitive to chage in the interest rate. i.e. there will be more price change of bond which is having longer term to maturity or more number of cash flows.

In this case, Bond B with semi-annual coupon has more number of cash flows compared to Bond A with annual coupon payments. Hence, Bond B is more sensitive to change in interest rate.

C) Statement is Ture. It is statement of fact that in 2020, for the most part, the real short-term interest rates (less than 10 Year Maturity) in the United States have been positive but close to zero.

D) Statement is Ture.

Real interest rate = Nominal interest rate - Inflation rate

Nominal interets rate is rate at which our money in bank grows.

Inflation rate is rate at which prices grow.

If the rate at which our money in the bank grows (nominal rate) is less than the rate at which prices grow (inflation rate), means Real interest rate (= Nominal interest rate - Inflation rate) is negative.