Pls tell me why A and C are correct in details pls Thx Which

Pls tell me why A and C are correct in details pls! Thx!

Which of the following statements is most correct?

A. All else equal, an increase in interest rates will have a greater effect on the prices of long-term bonds than it will on the prices of short-term bonds.

B. All else equal, and increase in interest rate will have a greater effect on higher- coupon bonds than it will have on lower-coupon bonds.

C. An increase in interest rates will have a greater effect on zero-coupon bond with 10 years maturity than it will have on 9-year bond with a 10 % annual coupon.

D. A and C are both correct.

Solution

Price of a bond is the present value of all the future cash flows receivable from the bons that is interest and principal. If interest rates rise, the expectations of the purchaser of the bond rises from the bond as he is expecting more interest in today\'s terms due to the change in market interest rates. So, desired rate of return, that is rate at which the future cash flows from the bond will be discounted also increases. If a bond has a long maturity, the future cash flows will be discounted more than the near term cash flows. Due to this, a long term maturity bond is more affected by a change in interest rates than a short term bond. (Option A scenario).

A zero coupon bond does not pay any interest but pays a high maturity value at the time of maturity. If interest rates rise, then a zero coupon bond maturing in 10 years will be discounted more than a coupon bearing bond. So, a zero coupon bond will be more affected than a coupon bearing bond.