Final answer:
It is possible for a government bond to have a negative yield, which can occur during economic uncertainty. Bond prices fluctuate inversely with interest rates, making them somewhat risky. To counter inflation risks, governments may offer indexed bonds.
Step-by-step explanation:
Yes, it is possible for a government bond to have a negative yield. Negative bond yields occur when investors are willing to pay more for a bond than the total amount of payouts they will receive over the life of the bond. This often happens in times of economic uncertainty when investors prioritize the safety of their capital over returns, finding government bonds to be a secure place to park their funds. Examples of this include 10-year Treasury bonds (notes) and high-grade corporate bonds issued by AAA-rated firms.
Regarding the price one would pay for a government bond given a change in interest rates, if interest rates rise after a bond is issued, new bonds would pay higher interest, making the old bonds less valuable. Therefore, you would expect to pay less than $10,000 for such a bond in the secondary market, assuming it was initially offered at that price. Conversely, if interest rates fall, the existing bond with a higher interest rate becomes more valuable, so you would expect to pay more than $10,000. The same principles apply to corporate bonds issued by firms that have been given an AAA rating as relatively safe borrowers.
Bonds can be somewhat risky to buy even with predetermined payments because of the potential for interest rate changes, default risk, and inflation. Default risk is generally low for government bonds, especially those from stable countries, but it is higher for corporate bonds, even for those with high credit ratings. Unexpected inflation can also erode the real value of the fixed payments from bonds. To protect against this, some governments offer indexed bonds, which adjust the principal and interest payments based on the rate of inflation, ensuring that the investor's purchasing power is maintained.