Suppose a perpetuity bond with a face value of $1,000 has a coupon rate of 8%. If market interest rates rise to 12%, the price of the bond
A) falls to $666.67.
B) falls to $880.
C) rises to $1,080.
D) rises to $1,120.

Question

Quizplus · Accepted Answer

The price of a perpetuity bond is given by:

Price = coupon payment / discount rate

When market interest rates rise to 12%, the discount rate used to calculate the price of the bond also rises to 12%. The coupon payment remains the same at 8% of the face value, or $80.

Using the formula, we get:

Price = $80 / 0.12 = $666.67

Therefore, the price of the bond falls to $666.67.

Suppose a Perpetuity Bond with a Face Value of $1,000