Question

Why is the relationship between price and yield negative? 

a. Because investors reward higher cash-flows with a lower price. 

b. Because governments regulation prohibits a positive relationship. 

c. Because an increase in the yield discounts cash flows at a higher rate and so their net present value decreases. 

d. Because cash flows are variable over a bond’s life.

Answer 1

Option D is correct.

 

Explanation:

Bond price and bond yield are inversely related. As the price of a bond goes up, the yield decreases. As the price of a bond goes down, the yield increases. This is because the coupon rate of the bond remains fixed, so the price in secondary markets often fluctuates to align with prevailing market rates. The yield and bond price have an important but inverse relationship. When the bond price is lower than the face value, the bond yield is higher than the coupon rate. When the bond price is higher than the face value, the bond yield is lower than the coupon rate. A negative bond yield is when an investor receives less money at the bond's maturity than the original purchase price for the bond. Even when factoring in the coupon rate or interest rate paid by the bond, a negative-yielding bond means the investor lost money at maturity.

Option D is correct.