Assume that all interest rates in the economy decline from 10% to 9%.Which of the following bonds would have the largest percentage increase in price?
A) A 1-year bond with a 15% coupon.
B) A 3-year bond with a 10% coupon.
C) A 10-year zero coupon bond.
D) A 10-year bond with a 10% coupon.
E) An 8-year bond with a 9% coupon.

Question

Quizplus · Accepted Answer

The duration of a bond determines its sensitivity to changes in interest rates. Zero coupon bonds have the longest duration, which means they have the highest sensitivity to changes in interest rates. Therefore, the 10-year zero coupon bond would have the largest percentage increase in price when interest rates decline from 10% to 9%.

Assume That All Interest Rates in the Economy Decline from 10