Discussion. 12 Hours. 150 Words Min.

Why is the bond market so sensitive to interest rates?  What is the mathematics behind this relationship?  Do a Google search to find a corporate bond issue where the company has either defaulted on the payments or called back the bonds.

Answer:

The bond market is sensitive to interest rates because the value of a bond is inversely related to the yield. When interest rates rise, the yield on newly issued bonds also rises, making older bonds with lower yields less attractive to investors and therefore decreasing their value. Conversely, when interest rates fall, the value of existing bonds increases as they become more attractive compared to newly issued bonds with lower yields.

The relationship between the yield of a bond and its price can be mathematically represented using the formula for the present value of a bond. The present value of a bond is calculated by discounting its future cash flows (interest payments and the return of principal) at a rate that represents the opportunity cost of investing in the bond (the yield).

Regarding your question about a corporate bond issue that has defaulted or been called back, one example is the 2008 financial crisis when many companies defaulted on their bond payments or had to call back their bonds. A more recent example is the bankruptcy of PG&E in 2019 which led to a default on its bond payments.

 

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