Kaitlyn purchases a $1,000 corporate bond with a fixed interest rate of 5 percent for $900. What is the most likely explanation for this apparent bargain?
A) Overall interest rates in the economy increase.
B) Someone just wanted to get rid of the bond quickly.
C) The bond receives a better rating by Standard & Poor's or Moody's.
D) Overall interest rates in the economy decrease.
E) The company just introduced a new product.

Question

Quizplus · Accepted Answer

When overall interest rates in the economy increase, the value of existing bonds with lower interest rates (like the 5 percent bond in question) decreases. This is because new bonds would likely be issued at the higher current interest rates, making the older, lower-yielding bonds less attractive, hence their market price drops. This scenario explains why Kaitlyn could purchase the bond at a discount.

Kaitlyn Purchases a $1,000 Corporate Bond with a Fixed Interest