posted by sam on .
(Interest-rate risk) Philadelphia Electric has many bonds trading on the New York Stock
Exchange. Suppose PhilEl’s bonds have identical coupon rates of 9.125% but that one issue
matures in 1 year, one in 7 years, and the third in 15 years. Assume that a coupon payment
was made yesterday.
a. If the yield to maturity for all three bonds is 8%, what is the fair price of each bond?
b. Suppose that the yield to maturity for all of these bonds changed instantaneously to 7%.
What is the fair price of each bond now?
c. Suppose that the yield to maturity for all of these bonds changed instantaneously again,
this time to 9%. Now what is the fair price of each bond?
d. Based on the fair prices at the various yields to maturity, is interest-rate risk the same,
higher, or lower for longer- versus shorter-maturity bonds?