"Fixed Income":Yield of bonds
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Questions 1:
A bond has a 10-year maturity, a $1,000 face value, and a 7% coupon rate. If the market requires a yield of 8% on similar bonds, it will most likely trade at a:
A 、discount.
B 、premium.
C 、discount or premium, depending on its duration.
Questions 2:
Holding all other characteristics the same, the bond exposed to the greatest level of reinvestment risk is most likely the one selling at:
A 、a premium.
B 、a discount.
C 、par.
A is correct. When the required yield is higher than the coupon rate, the bond will trade at a discount to par.
B is incorrect because a bond trades at a premium when the required yield is less than the coupon rate.
C is incorrect because a bond trades at a discount when the required yield is higher than the coupon rate.
A is correct. A bond selling at a premium has a higher coupon rate and, all else being equal, bonds with higher coupon rates face higher reinvestment risk. The higher the coupon rate, the more dependent the bond’s total dollar return will be on the reinvestment of the coupon payments in order to produce the yield to maturity at the time of purchase.
B is incorrect because, all else being equal, a bond selling at a discount has a lower coupon rate than a bond selling at a premium.
C is incorrect because, all else being equal, a bond selling at par has a lower coupon rate than a bond selling at a premium.
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