Having determined how to calculate the value of a bond (Bond Price) and the effective rate of return of bond (i) you should now be able to derive or explain some key bond relationships.
Bond Price = Coupon X 1 – 1/(1+i)ᴺ + Face Value X 1
Using the above bond formula, your reading assignments and basic logic, answer each of the following relationship questions in a brief one paragraph posting.
1. Logically explain in your own words the following bond relationship and why it works: “The value of a bond is inversely related to changes in the investor’s present required rate of return (the current interest rate).”
2. Explain what bond market condition would result the market price of a bond being less than par and what bond market condition would result in the market price of a bond being greater than par.
3. Explain what happens to the market price of a bond as the bond approaches its maturity date.
4. Logically explain in your own words the following bond relationship, and why it work so: “Long term bonds have a greater interest rate risk than do short term bonds.”
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(1) The required rate of return is the profit an investor needs to receive in order to buy the underlying security. Consequently, there is an inverse relationship between the value of a bond and the current interest rate because it is the current interest rate that determines the spread, and by extension the demand for a bond. When the investor’s required rate of return reduces, the price that...