Samantha comes to you for advice on the purchase of bonds. She tells you that she...
Samantha comes to you for advice on the purchase of bonds. She tells you that she has the option of acquiring a 2% bond with a maturity three years from now, or a bond paying a similar coupon that will mature 8 years from today. Both bonds are fairly priced and they are first mortgage bonds, carrying MBNA Insurance. If you expect interest rates to decline in the near future, which bond would you recommend that Samantha acquire, and why?
Homework Answers
To understand the answer to this question. We need to understand a simple concept.
There is an inverse relationship between change in market yield and change in bond price.
When the Interest rate (Yield ) in the market decreases than the Bond price increases.
Bonds with high maturity (long term) are more sensitive to interest rate change.
Samantha will benefit the most by buying a longer-term bond. That is she will benefit the most by buying a bond paying a similar coupon that will mature 8 years from today.
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