Question

Two 20-year corporate bonds are issued at par, with stated interest rates of 10%. One issue is puttable at par in 5 years, while the other is puttable at par in 10 years. If interest rates rise by 200 basis points shortly after issuance, which statement is TRUE?
a. The bond puttable in 5 years will depreciate more than the bond puttable in 10 years
b. The bond puttable in 10 years will depreciate more than the bond puttable in 5 years
c. Both bonds will depreciate by equal amounts
d. The rate of depreciation depends on the credit rating of the bonds

Answer 1

Answer:

b. The bond puttable in 10 years will depreciate more than the bond puttable in 5 years

Explanation:

Data provided in the question

20 -year corporate bond i.e issued at par at 10%

One issue is for 5 years

other issue is for 10 years

Now if the interest rate rise by 200 basis points

So,

Based on the above information

If a bond is issued at a future date, any price drop due to higher interest rates will be eliminated as the holder is able to return the bond to the issuer earlier

Hence, the option B is correct