Question

Which of the following statements is true?

a. A coupon bond is a debt security with only one payment.
b. The amount invested in financial security is referred to as perpetuity.
c. A coupon bond is a debt security that pays interest forever and never repays principal.
d. The present value of perpetuity varies directly with the annual repayments.

Answer 1

d. The present value of perpetuity varies directly with the annual repayments.

Step-by-step explanation:

A perpetuity is a security or bond which pays a fixed amount of cash flow at a fixed interval forever. So the amount it pays stays the same and it keeps paying for ever. The formula to find the present value of a perpetuity is

Cash flow of perpetuity/Interest Rate

So if the annual payment is 100 and the interest rate is 5% the present value of the annuity is

100/0.05=2,000

If we keep the interest rate the same at 5% and increase the cash flow by 100 to 200 the new present value of the perpetuity is

200/0.05=4,000

This proves that the present value of a perpetuity varies directly with the annual repayments or cash flow of perpetuity.