Answered: Risks of investing in bonds A security…

Intermediate Financial Management (MindTap Course List)

13th Edition

ISBN:9781337395083

Author:Eugene F. Brigham, Phillip R. Daves

Publisher:Eugene F. Brigham, Phillip R. Daves

Chapter4: Bond Valuation

Section: Chapter Questions

Problem 14MC

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Risks of investing in bonds

A security with higher risk will have a higher expected return. A bond’s risk level is reflected in its yield, but understanding the different risks involved when investing in bonds is important.

The curves on the following graph show the prices of two 10% annual coupon bonds at various interest rates.

Q1. Based on the graph, which of the following statements is true?

a. Neither bond has any interest rate risk.

b. The 10-year bond has more interest rate risk.

c. Both bonds have equal interest rate risk.

d. The 1-year bond has more interest rate risk.

Q2. Which type of bonds offer a higher yield?

a. Noncallable bonds

b. Callable bonds

Q3. Answer the following question based on your understanding of interest rate risk and reinvestment risk.

True or False: Assuming all else is equal, the shorter a bond’s maturity, the more its price will change in response to a given change in interest rates.

a. False

b. True

Please verify the answer. Previously similar question came out wrong.

BOND VALUE ($)
2000
1750
1500
1250
1000
750
500
250
0
4
8
1-Year Bond
12
10-Year Bond
20
INTEREST RATE [%]
16

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