Determine whether the following statements are TRUE or FALSE. Briefly explain your answers. (a) “If the...
Determine whether the following statements are TRUE or
FALSE.
Briefly explain your answers.
(a) “If the actual inflation rate is unexpectedly high, the
realized real interest rate can be
negative.”
(b) “If the price of a perpetuity is below its par value, the
yields to maturity is higher than
the coupon rate.”
Homework Answers
(a): TRUE
Explanation: Real interest rate = Nominal interest rate – Rate of inflation.
Real interest rates are negative when the rate of inflation is higher than the nominal interest rate.
(b): TRUE
Explanation: Here the perpetuity is priced at a discount (i.e. below its par value) and this happens when coupon rate < YTM. When coupon rate > YTM then perpetuity is priced at premium.
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