Finance Questions

Consider three bonds with 8 percent coupon rates, all selling at face value. The short-term bond has a maturity of 4 years, the intermediate-term bond has a maturity of 8 years, and the long-term bond has a maturity of 30 years.

a. What will happen to the price of each bond if their yields increase to 9 percent?
b. What will happen to the price of each bond if their yields decrease to 7 percent?

c. What do you conclude about the relationship between time to maturity and the sensitivity of bond prices
to interest rates?

Solution

Problem 4-21
Instructions

In the table below, use the MS Excel PV function to calculate bond values.

a. What will happen to the price of each bond if their yields increase to 9 percent?

b. What will happen to the price of each bond if their yields decrease to 7 percent?

Maturity of bond
Yield 4 years 8 years 30 years
7% FORMULA FORMULA FORMULA
8% FORMULA FORMULA FORMULA
9% FORMULA FORMULA FORMULA

c. What do you conclude about the relationship between time to maturity and the sensitivity of bond prices
to interest rates?