BOND QUESTION
Ive got a bond question! If you have 2 bonds:
1) a corporate bond with 5 years to matuiry 2) a Government bond with 10 years to maturity
They are identical in all other ways. Which do you pick and why??
i was thinking of answering something like this: the bond with the lower maturity has less interest rate risk but more default risk, so it would depend on the investor and their risk preferences.
does anone have any other ideas??
Yes that is correct. You could also talk about duration (don't bring it up unless you know it like the back of your hand) and how the government bond has a longer duration so if interest rates rise it will get a bigger price jump.
I'm assuming this is an interview question. It's clearly asking two things: 1) what's the difference between a corporate and government bond? 2) what effect does the time to maturity have on value
corporate bond has default risk so it must have a higher coupon than the government bond, which is default free (unless we are in 1998 Russia) a longer time to maturity means you have more interest rate risk, so if rates go up you will be stuck with relatively low rates for 10 years instead of 5, or you will have to sell the bond at a discount if you want to invest that money elsewhere. another thing to mention is that effect of inflation is higher with the 10 year bond as well.
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