(Interest-rate risk) Philadelphia Electric has many bondstrading on the New York

Question

(Interest-rate risk) Philadelphia Electric has many bondstrading on the New York Stock Exchange. Suppose PHilEl’sbonds have identical coupon rates of 9.125% but that one issuematures in 1 year, one in 7 years, and the third in 15years. Assume that a coupon payment was made yesterday.

a.       If the yield to maturityfor all three bonds is 8%, what is the fair price of each bond?

b.      Suppose that the yield tomaturity for all of these bonds changed instantaneously to7%. What is the fair price of each bond now?

c.       Suppose that the yield tomaturity for all of these bonds changed instantaneously again, thistime to 9%. Now what is the fair price of each bond?

d.      Based on the fair prices at thevarious yields to maturity, is interest-rate risk the same, higher,or lower for longer-versus shorter-maturity bonds?

Explanation / Answer

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