Final answer:
With the rise in interest rates from 6% to 9%, Shelby Bogden should expect to pay less than the face value of her bond, indicating it was purchased at a discount.
Step-by-step explanation:
The student's question is about bond valuation in the context of changing interest rates. Specifically, it pertains to whether Shelby Bogden purchased the bond at a premium, par, or discount.
To address this, consider a local water company that issued a $10,000 ten-year bond at a 6% interest rate.
If the market interest rates rise to 9% a year before the bond matures, the current price of this bond would decrease.
Since new bonds would be issued at the higher current rate of 9%, the existing bonds with lower rates become less attractive unless their price is lowered to offer a comparable yield.
To illustrate, if an investor will receive the face value of a bond (say $1,000) plus the last year's interest ($80, at an 8% coupon rate) at maturity, the yield on that bond would be calculated as (($1080 - $964)/$964) = 12%. The yield, or total return, includes interest payments and capital gains. When interest rates rise, bonds previously issued at lower interest rates will sell for less than face value.
Therefore, with the increase in interest rates from 6% to 9%, Shelby should expect to pay less than the face value of her bond, which means it was purchased at a discount.
The complete question is:content loaded
Shelby Bogden, your client, purchased a 6% corporate bond with a current yield of 5%. The bond was purchased at_________