Kim recently purchased a perpetual bond for $1,000.The bond pays $50 in interest per year.Suppose market interest rates rise to 7% after the purchase.The price of the bond:

Question

Quizplus · Accepted Answer

A perpetual bond is a bond with no maturity date, which means it pays a fixed interest rate forever. In this case, the bond pays $50 in interest per year, which represents a yield of 5% ($50/$1,000). When market interest rates rise to 7%, the yield on the bond becomes less attractive, and investors would demand a higher yield to compensate for the increase in market rates. The new yield required by investors is 7%, which means the bond price would have to fall until its yield matches that level. Using the formula for bond pricing, we can calculate the new price of the bond as follows: 
$50 / 7% = $714.29 
Therefore, the price of the bond falls to $714.29, which is closest to option C.

Kim Recently Purchased a Perpetual Bond for $1,000