Chapter 2 Risks Associated with

Investing in Bonds
Some of the risks associated with investing in bonds are:
o Interest rate risk
o Call and prepayment risk
o Yield curve risk
o Reinvestment risk
o Credit risk
o Liquidity risk
o Exchange-rate risk
o Volatility risk
o Inflation or purchasing power risk
o Event risk
o Sovereign risk
Interest Rate Risk
o When the price of a bond fluctuates with market interest rates, the risk that an
investor faces is that the price of a bond held in a portfolio will decline, if market
interest rates rise.
o The major risk faced by investors in the bond market
When interest rates rise, a bonds price will fall
When interest rates fall, a bonds price will rise
The impact of Maturity All other factors constant
o The longer the bonds maturity, the greater the bonds price sensitivity to changes in
interest rates
The impact of Coupon Rate All other factors constant
o The lower the coupon rate, the greater the bonds price sensitivity to changes in
interest rates
The impact of Embedded Options