Question

Jenny is considering buying a bond issued by Capstone Corporation. The bond has a face value of $5,000 but is currently selling for $4,900. Jenny says that she is interested in the bond but won’t buy it until market yields for similar bonds drop, because that will make the Capstone bond cheaper. What should you tell Jenny?

• A : Her plan makes sense, because a drop in the prevailing rate will lead to a drop in the price of Capstone’s bond.

• B : She should wait until market rates on similar bonds increase.

• C : Don't buy the bond at any price as decreases in the market rate will make the bond a worse investment in the long run.

• D : Buy now because decreases in the market rate will increase its face price, thus making the bond a better investment in the long run.

• Can someone help me with this problem.

• 

  Q 8.23: Jenny is considering buying a bond issued by Capstone Corporation. The bond has a face value of $5,000 but is currently selling for $4,900. Jenny says that she is interested in the bond but won't buy it until market yields for similar bonds drop, because that will make the Capstone bond cheaper. What should you tell Jenny? A Her plan makes sense, because a drop in the prevailing rate will lead to a drop in the price of Capstone's bond. B She should wait until market rates on similar bonds increase. Don't buy the bond at any price as decreases in the market rate will make the bond a worse investment in the long run. Buy now because decreases in the market rate will increase its face price, thus making the bond a better investment in the long run.

Answer 1

Option D is the correct option.

Jenny should buy the bond now because if as per her expectations the yields for the similar bonds decrease the price of the bond will increase. Then she might have to buy at a price above the current price of 4900. Also since yield and price of bond are inversely related, the yields if decreases makes the bond at current price a good investment as the price of the bond will increase in the longer term.