An investor has an expectation that the market interest rate would keep going down. Considering the bond pricing theorem, which one of the following bonds would the investor most likely purchase?

A. 5% coupon bond that matures in 3 years.

B. 10% coupon bond that matures in 3 years.

C. Zero coupon bond that matures in 5 years.

D. 10% coupon bond that matures in 5 year

Solutions

Expert Solution

The right option is (c).

Explanation:

Rule 1 : Higher maturity bonds are more sensitive to interest rate changes.

Rule 2 : Lower coupon bonds are more sensitive to interest rate changes.

As interest are coming down, we will go for "zero coupon bond that matures in 5 years" because it has lowest coupon and highest maturity

Hence, answer is C. Zero coupon bond that matures in 5 years.

Nabeel answered 1 year ago

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