Question

Consider three bonds with 6.3% coupon rates, all making annual coupon payments and all selling at a face value of $1,000. The short-term bond has a maturity of 4 years, the intermediate-term bond has maturity 8 years, and the long-term bond has maturity 30 years.

a. What will be the price of each bond if their yields increase to 7.3%? (Do not round intermediate calculations. Round your answers to 2 decimal places.)

4 year Bond price ____________ 8 Year Bond Price ___________ 30 year bond price

b. What will be the price of each bond if their yields decrease to 5.3%? (Do not round intermediate calculations. Round your answers to 2 decimal places.)

4 Year Bond price __________ 8 Years Bond price ___________30 Years Bond price __________

c. Are long-term bonds more or less affected than short-term bonds by a rise in interest rates?

More affected or Less affected

d. Would you expect long-term bonds to be more or less affected by a fall in interest rates?

More affected or Less affected

Answer 1

Part (a):

Price of the bond when yield increases to 7.3%:

4 Year bond price= $966.36

8 Year bond price= $940.98

30 Year bond price= $879.56

Part (b):

Price of the bond when yield decreases to 5.3%:

4 Year bond price= $1,035.21

8 Year bond price= $1,063.86

30 Year bond price= $1,148.60

Part (c):

Long term bonds are more affected than the short term bonds by a rise in interest rate

Part (d):

Long term bonds will be more affected by a fall in interest rate

Details of calculation using PV function of Excel as follows: