Final answer:
The effective duration of a putable bond decreases as interest rates rise because the put option becomes more valuable, offering the bondholder the ability to sell the bond at a set price despite market fluctuations.
Step-by-step explanation:
When interest rates rise, particularly when they are high relative to a bond's coupon rate, the effective duration of a putable bond can differ from that of a standard bond. For a putable bond, the option to sell it back to the issuer at a predetermined price protects the bondholder from falling prices due to rising interest rates.
Therefore, as interest rates increase, the effective duration of the putable bond will decrease because the put option increases in value. The investor has an advantage because they can put the bond back to the company and reinvest at higher rates.