When a perpetual bond with a face value of $1,000 is issued, general interest rates are 3%, so the annual interest payment is _____. After the bond is issued, market interest rates rise to 4%, which forces the price of the bond to _____ to _____.
A) $3; rise; $750
B) $3; fall; $75
C) $30; rise; $750
D) $30; fall; $750

Question

Quizplus · Accepted Answer

The annual interest payment is calculated by multiplying the face value of the bond with the interest rate. Therefore, for a perpetual bond with a face value of $1,000 and an interest rate of 3%, the annual interest payment would be:

$1,000 x 0.03 = $30

When market interest rates rise to 4%, the price of the bond falls as investors can now earn a higher return elsewhere. The price of a perpetual bond can be calculated by dividing the annual interest payment by the market interest rate. Therefore, when market interest rates rise to 4%, the price of the bond would be:

$30 ÷ 0.04 = $750

Therefore, the correct answer is D, $30; fall; $750.

When a Perpetual Bond with a Face Value of $1,000