Series 7 practice questionhardDebt Securities — Bond Pricing — Scenario
Two bonds have the same credit rating and maturity of 15 years. Bond A has a 3% coupon and Bond B has a 7% coupon. If interest rates rise by 1%, which statement is TRUE?
- ABond A will decline more in price because lower coupon bonds have higher duration✓ Correct answer
- BBoth bonds will decline in price by the same dollar amount
- CBond B will decline more in price because it has a higher coupon
- DNeither bond's price will change because they have the same maturity
Explanation
Why A — Bond A will decline more in price because lower coupon bonds have higher duration
Lower coupon bonds have higher duration (interest rate sensitivity) than higher coupon bonds of the same maturity. This is because a larger proportion of the lower coupon bond's total return comes from the principal payment at maturity (far in the future), while the higher coupon bond receives more of its return sooner through coupon payments. Therefore, Bond A (3% coupon) will experience a greater percentage price decline than Bond B (7% coupon).
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