Products & Their RisksQuestion 41 of 398
An investor buys a bond at par with a 4% coupon. If market rates later drop to 2%, the market value of the investor's bond will most likely:
a.Increase, trading at a premium
b.Decrease, trading at a discount
c.Remain exactly at par
d.Fall to zero
Explanation
When market rates fall below a bond's fixed coupon, that bond becomes more attractive and its price rises above par to a premium. Prices move inversely to rates, so a rate drop raises the price rather than lowering it or leaving it unchanged.
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