QUESTION 43 How many of the following statements is/are true? Statement 1: An increase in the...

QUESTION 43

How many of the following statements is/are true?

Statement 1: An increase in the market YTM after a bond is purchased but before the first coupon date will lead to a realized return equal to the YTM of the bond when the bond was purchased for a buy-and-investor.

Statement 2: A decrease in the market YTM after a bond is purchased but before the first coupon date will lead to a realized return equal to the YTM of the bond when the bond was purchased for a buy-and-investor.

Statement 3: A floating rate bond earns a rate of return equal to the YTM of the bond when it was purchased.

	a.	0
	b.	1
	c.	2

Solutions

Expert Solution

Statement 1 is false. An increase in the YTM would mean that the coupon payments can be reinvested at a higher rate (assuming that current YTM is the reinvestment rate). Therefore, the realized return for a buy-and-hold investor would be higher than the YTM of the bond when the bond was purchased. This is because the coupon payments can be reinvested at a higher rate (YTM).

Statement 2 is false. A decrease in the YTM would mean that the coupon payments can be reinvested at a lower rate (assuming that current YTM is the reinvestment rate). Therefore, the realized return for a buy-and-hold investor would be lower than the YTM of the bond when the bond was purchased. This is because the coupon payments can be reinvested at a lower rate (YTM).

Statement 3 is false. The rate of return earned would depend on the change in interest rates over the holding period, and the time period between the rate reset dates. A long time period would not mirror the market interest rates very closely, and hence the realized return would differ from the YTM.

The answer is (a) - none of the statements are true

jeff jeffy answered 6 months ago

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