CFA Practice Question

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CFA Practice Question

If market interest rates rise, the price of a callable bond, compared to an otherwise identical option-free bond, will most likely decrease by ______.
A. less than the option-free bond
B. more than the option-free bond
C. the same amount as the option-free bond
Explanation: A callable bond's value is equal to an option-free bond less the value of the call option. As interest rates rise, the value of the call option decreases by a decreasing amount relative to the straight bond. The option-free bond also declines in value as interest rates rise, but this decrease is offset by the decline in the value of the call option. Therefore, the price of a callable bond decreases by less than a comparable option-free bond.

User Contributed Comments 1

User Comment
Lambo83 Surely whether the movement in price is less or the same as an option-free bond is subject to where price is in relation to the call price.
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