Final answer:
The current yield of a bond with a face value of $1,000, purchased for $800, and paying 5% annual interest is calculated to be 6.25%, not included in the given options. The explanation about bond prices and interest rates helps understand how the bond market adjusts when economic conditions change.
The correct option is not given.
Step-by-step explanation:
The student's question appears to be aimed at calculating the current yield of a bond. The bond has a face value of $1,000, is purchased for $800, and pays 5% interest annually.
First, we find the annual interest amount, which is 5% of $1,000, equating to $50. To find the current yield, we then divide the annual interest by the purchase price and multiply by 100 to convert it to a percentage.
Therefore, the current yield is ($50 / $800) × 100, which calculates to 6.25%. However, since this option is not available among the choices, and assuming there might be a misunderstanding in the given options or question parameters, we can attempt to make sense of it by exploring similar concepts.
Bond valuation concerns are also present in the question details provided. The explanation provided is about how bond prices adjust when interest rates change in the economy. A bond carrying no risk (a risk-free bond) is often sold at its face value.
If the interest rates in the economy change, investors tend to find bonds that match the new rates, causing sellers of existing bonds with lower rates to sell at a discount.
In the context provided, a bond with an 8% interest rate will sell for less than its face value of $1,000 when the prevailing rates in the economy rise to 12%.
The correct option is not given.