BNAD301 Chapter 4 Part 2

If you expect the inflation rate to be 15 percent next year and a oneminus−year bond has a yield to maturity of 7​ percent, then the real interest rate on this bond is

-8 percent.

A financial adviser has just given you the following​ advice: "Long-term bonds are a great investment because their interest rate is over​ 20%." Is the financial adviser necessarily​ right?

No. If interest rates rise sharply in the​ future, long-term bonds may suffer a sharp fall in​ price, causing their return to be quite low.

The​ ________ is defined as the payments to the owner plus the change in a​ security's value expressed as a fraction of the​ security's purchase price.

rate of return

The sum of the current yield and the rate of capital gain is called the

rate of return.

The​ ________ interest rate more accurately reflects the true cost of borrowing.

real

Prices and returns for​ ________ bonds are more volatile than those for​ ________ bonds, everything else held constant.

long−​term; short−term

What is the return on a 5 percent coupon bond that initially sells for​ $1,000 and sells for​ $900 next​ year?

-5 percent

Suppose you are holding a 5 percent coupon bond maturing in one year with a yield to maturity of 15 percent. If the interest rate on one−year bonds rises from 15 percent to 20 percent over the course of the​ year, what is the yearly return on the bond you are​ holding?

15 percent

If the interest rates on all bonds rise from 5 to 6 percent over the course of the​ year, which bond would you prefer to have been​ holding?

A bond with one year to maturity

Which of the following are true concerning the distinction between interest rates and​ returns?

The rate of return on a bond will not necessarily equal the interest rate on that bond.

An equal increase in all bond interest rates

decreases long−term bond returns more than short−term bond returns.

The nominal interest rate minus the expected rate of inflation

defines the real interest rate.

An equal decrease in all bond interest rates

increases the price of a ten−year bond more than the price of a five−year bond.

Interest−rate risk is the riskiness of an​ asset's returns due to

interest−rate changes.

The interest rate on Treasury Inflation Protected Securities is a direct measure of

the real interest rate.

When the​ ________ interest rate is​ low, there are greater incentives to​ ________ and fewer incentives to​ ________.

​real; borrow; lend