Question

4. Interest rates and their effect on corporate profits and investment prices Interest rates affect corporate profits and security prices. Based on your understanding of the relationship between interest rates and corporate profits and security prices, identify which of the following statements is true and which are false. True False Ststements The higher the interest rate on a firm's debt, the lower will be the firm's profits, all other considerations remaining constant. An increase in the interest rate paid by a business borrower will reduce the firm's default risk, all other considerations remaining constant. In general, when interest rates increase, the prices and values of financial assets decrease. A sharp Increase in interest rates will decrease the price of bonds and increase the interest Income available to now bondholders. This will increase the demand for bonds compared to the demand for stocks, all other considerations remaining constant. To further examine the relationship between interest rates and the price of financial assets, consider the effect of a change in an investor's required return, or opportunity cost, on the price of a financial asset. Four years ago, Zachary purchased a perpetuity that agrees to pay him and his heirs $150 per month forever. At the time of purchase, Zachary was expecting to earn an annual return of 6.00%, but in the intervening years, the economy and the available investment alternatives have changed. In today's market, it is now reasonable to anticipate an annual return of 3.60%. By how much would you expect the value of Zachary's perpetuity to change from when he purchased it until today? $30,000 $50,000 $20,000 $1,667

Answer 1

Statement 1 - True

Statement 2 - False

Statement 3 - True

Statement 4- True

Answer to the Second part is $1667.