Bond A is currently selling at par and has a yield of 5%. Bond B has the same coupon rate as A but is selling at a premium. Given this information, which of the following statements is correct. Bond B's coupon rate is below 5%. Bond B's coupon rate is above 5%. Bond B's yield is below 5%. Bond B's yield is above 5%.
Question
Bond A is currently selling at par and has a yield of 5%. Bond B has the same coupon rate as A but is selling at a premium. Given this information, which of the following statements is correct. Bond B's coupon rate is below 5%. Bond B's coupon rate is above 5%. Bond B's yield is below 5%. Bond B's yield is above 5%.
Solution
The correct statement is: Bond B's yield is below 5%.
Here's why:
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Bond A is selling at par, which means its coupon rate is equal to its yield, which is 5%.
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Bond B has the same coupon rate as Bond A, so its coupon rate is also 5%.
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However, Bond B is selling at a premium. When a bond sells at a premium, it means the price of the bond is higher than its face value. This happens when the coupon rate of the bond is higher than the current market interest rate.
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But in this case, we know that the coupon rate of Bond B is not higher than the market interest rate (which is represented by Bond A's yield of 5%). Therefore, the only way Bond B can be selling at a premium is if its yield (the actual return on investment) is lower than 5%.
So, the correct statement is: Bond B's yield is below 5%.
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