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  • Exam Code: CPP-N-America
  • Exam Name: CPP-N America - Certified Payroll Professional

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A treasury bond paying a 4% coupon is sold at a discount. Assume that the yield curve stays flat and constant over the next one year. The price of the bond one year hence can be expected to:
A. Decrease
B. Cannot be determined with the given information
C. Stay the same
D. Increase
Answer: D
Fixed income instruments go through the 'pull-to-par' phenomenon as they get closer to maturity. In this case, since interest rates stay constant, the bond will rise in price over the year to get closer to its redemption value.
Of course, you can apply the standard discounting logic as well to say that while one year's coupon payment drops off, the remaining years' cash flows get discounted for a year less and the value would go up. However it is just easier to remember that at maturity the bond will be close to its notional or face value, and therefore if it is selling at a discount now, it will rise in value over its remaining life to get to the face value.
Exactly the reverse logic would apply to bonds sold at a premium, they would decline in value over time as to get to the par value at maturity.


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