A 15 year bond is issued with a face value of 5000, paying interest of 300...

A 15 year bond is issued with a face value of 5000, paying interest of 300 a year. If yields to maturity increase shortly after t bond is issued, what happens to the bond . Coupon rate ? .. price ?

Expert Solution

ANSWER

IF YIELD TO MATURITY INCREASES SHORTLY, THEN :

ITS AFFECT ON COUPON RATE :

The Increase or Decrease of Yield to Maturity does not affect the Coupon rate because the Coupon Rate of a Bond is FIXED throughout the tenure of the Bond.
Coupon Rate is Fixed at the time of Issue of bond only and does not vary at with other factors such as change in yields and market interest rates etc.
Hence NO CHANGE IN COUPON RATE.

ITS AFFECT ON BOND PRICE :

When Yield to Maturity increases, it means that now the Investor's Expectation have increased and now they demand more return from such Bonds.
BUT Since the Return from the Bond in terms of Coupon Payment remains fixed, the Bond holders starts exiting from such bond and the Bond Price starts falling.
Also in other words, since Yield to Maturity is the Discount Rate with which we discount out Cash Inflows from the Bond in order to compute "bond price" , the Higher will be our Discount Rate Lower will come our Bond Price.
Hence we can conclude that BOND PRICE WILL FALL.

jeff jeffy answered 1 year ago

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