Houjichasan

tenten Wrote:
-------------------------------------------------------
> Question and then my comment below:
>
>
>
>
> Wall believes he understands the relationship
> between interest rates and straight bonds but is
> unclear how callable bonds change as interest
> rates increase. How do prices of callable bonds
> react to an increase in interest rates? The
> price:
> A) decreases.
> B) may increase or decrease.
> C) increases.
>
> Your answer: C was incorrect. The correct answer
> was A) decreases.
>
> Since the bond has a fixed coupon it becomes
> relatively less attractive to investors when
> interest rates increase. Its cash flows are now
> discounted at a higher discount rate which reduces
> the value of the bond. (Study Session 14, LOS
> 54.e, f)
>
>
>
>
> I am not getting this. When rates go down there
> is a higher chance that issuers will call the
> bond, so I would think that low rates make
> callable bonds unattractive. Therefore, it seems
> that an INCREASE in interest rates would make
> callable bonds more attractive/less risky for the
> investor. Why then does the Q say that the price
> of callable bonds will decrease?

Just because they are more attractive doesn't mean it will overpower the effect of interest rates on the bond price.

NO EXCUSES