You have purchased a bond with a 7% annual coupon rate for $1,060. What will happen to the bond's price if market interest rates rise?

Question

You have purchased a bond with a ​7% annual coupon rate for ​$1,060. What will happen to the​ bond's price if market interest rates​ rise?

BlackTom AI · Accepted Answer

The scenario: a bond with a 7% annual coupon is purchased for $1,060. We are asked what happens to the bond's price if market interest rates rise.

Option a: Increase. When market interest rates rise, newly issued bonds will offer higher coupon payments relative to existing bonds. Investors would demand a discount on the older bond to reconcile its lower coupon with higher prevailing rates, so the price should fall, not rise. This makes the 'Increase' choice inconsistent with standard bond pricing mechanics.

Option b: No change. Bond prices move inversely with interest rates. If market rates rise, the present value of future cash flows (coupons and principal) declines, causing the price to fall. Saying there is no change ignores the time value of money and rate impact, so this option is incorrect.

Option c: Decrease. Rising market rates reduce the present value of the bond’s fixed cash flows. Since the bond’s coupon (7%) is fixed, when rates go up, the bond must trade at a lower price to offer a comparable yield to new market issues. This aligns with the fundamental inverse relationship between prices and yields in fixed-rate bonds.

Option d: Unable to decide as not enough information is given. The question provides enough information to reason about price movement: we know the coupon rate and the direction of rate change. The standard relationship between interest rates and bond prices is sufficient to determine that the price will fall when rates rise, so this option is incorrect.

In summary, each option is evaluated against the core principle: bond prices move inversely to market interest rates because higher rates discount future cash flows more aggressively, pushing the price downward. This leads to the conclusion that the price would decrease when rates rise, making the alternative that asserts an increase or no change inconsistent with fundamental bond valuation concepts.

MCD2170 Foundations of Finance - Trimester 3 - 2025

You have purchased a bond with a 7% annual coupon rate for $1,060. What will happen to the bond's price if market interest rates rise?

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MCD2170 Foundations of Finance - Trimester 3 - 2025

You have purchased a bond with a ​7% annual coupon rate for ​$1,060. What will happen to the​ bond's price if market interest rates​ rise?

View Explanation

Log in for full answers

Similar Questions

A bond will sell at a discount​ (below par​ value) if

As interest rates rise, the market price of your bond is also likely to rise.

On January 1st, 2005, Borrower Limited sold a 10%, five-year, $100 million bond when bonds of equivalent risk and maturity were yielding 5% annually. Interest payments are made on January 1st next year. What is the Price of the Bond?

All bonds considered below have a face value of $1000. The two-year zero-coupon bond is trading at $906.86 while the two-year bond with annual coupon rate 3% is trading at $962.96. In the absence of arbitrage, what is the fair price of the one-year zero-coupon bond?

A company releases a five-year bond with a face value of​ $1000 and coupons paid semi-annually. If market interest rates imply a YTM of​ 6% p.a., which of the following annual coupon rates will cause the bond to be issued at a​ premium?

A 7-year, 5% coupon bond (payable semi-annually) that was issued 4 years ago is presently trading at a YTM of 9%. Bond has a face value of $1000. Compute the bond's price.

More Practical Tools for Students Powered by AI Study Helper

Making Your Study Simpler

You have purchased a bond with a 7% annual coupon rate for $1,060. What will happen to the bond's price if market interest rates rise?

A bond will sell at a discount (below par value) if

A company releases a five-year bond with a face value of $1000 and coupons paid semi-annually. If market interest rates imply a YTM of 6% p.a., which of the following annual coupon rates will cause the bond to be issued at a premium?