1215

Which of the following bond features would result in lower interest rate risk? A:

A) lower coupon rate.

B) higher yield to maturity.

C) longer maturity.

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A higher yield to maturity would result in a shorter duration and lower interest rate risk. A longer maturity and lower coupon rate would result in longer durations and higher interest rate risk.

1215

Tom Wilkens is a portfolio manager and has a retiree as a client. The client would like to invest in bonds with low interest rate risk. Which bond should Tom choose for his client? The bond with a:

A) 20 year maturity and a yield to maturity of 5%.

B) 10 year maturity and a yield to maturity of 5%.

C) 10 year maturity and a yield to maturity of 8%.

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The shorter the bond’s maturity and the higher the yield to maturity, the shorter the duration and the lower the interest rate risk.

1215

All else equal, the lower the bond’s yield to maturity, the:

A) shorter the duration and the lower the interest rate risk.

B) shorter the duration and the higher the interest rate risk.

C) longer the duration and the higher the interest rate risk.

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A lower yield to maturity would result in a longer duration and higher interest rate risk.

1215

Which of the following statements about a bond with a call feature is least accurate? The call feature:

A) reduces the bond's capital appreciation potential.

B) increases the bond's duration, increasing price risk.

C) exposes investors to additional reinvestment rate risk.

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A call feature decreases a bond's duration.

1215

Of the following three otherwise identical bonds, which is likely to exhibit the greatest price volatility?

A) 5% coupon bond with 20 years to maturity.

B) 10% coupon bond with 10 years to maturity.

C) 10% coupon bond with 20 years to maturity.

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This question is asking: given a change in yield, which of the bonds will exhibit the greatest price change? Of the three choices, the bond with the longest maturity and lowest coupon will have the greatest price volatility. 

All else equal, the bond with the longer term to maturity is more sensitive to changes in interest rates. Cash flows that are further into the future are discounted more than near-term cash flows. Here, this means that one of the 20-year bonds will have the highest volatility. Similar reasoning applies to the coupon rate. A lower coupon bond delivers more of its total cash flow (the bond's par value) at maturity than a higher coupon bond. All else equal, a bond with a lower coupon than another will exhibit greater price volatility. Here, this means that of the 20-year bonds, the one with the 5% coupon rate will exhibit greater price volatility than the bond with the 10% coupon.