The Faulk Corp. has a bond with a coupon rate of 4 percent outstanding. The Gonas Company has a bond with a coupon rate of 10 percent outstanding. Both bonds have 12 years to maturity, make semiannual payments, and have a YTM of 7 percent. If interest rates suddenly rise by 2 percent, what is the percentage change in the price of these bonds?

Decrease in price of the bond by 16.01%

Explanation:

Find the price of the bond with the two different YTMs and compare the two prices;

a.) at 7% YTM and semi-annual coupons

N = 12*2 = 24

I/Y = 7%/2 = 3.5%

FV = 1,000 (use 1000 as FV if not given)

PMT = (4%/2) * 1000 = 20

PV = $759.12

b.) at 7% YTM and semi-annual coupons

N = 24

I/Y = (7%+2%) / 2 = 4.5%

FV = 1,000 (use 1000 as FV if not given)

PMT = (4%/2) * 1000 = 20

PV = $637.61

Percentage change in price = [ ($637.61 - $759.12) / $759.12] * 100

Percentage change in price = - 16.01%

There is a decrease in price of the bond by 16.01%