Page 8 chapter 20 says: "The yields on short-term bonds are closely related to returns on money market instruments so a reduction in short-term interest rates will almost certainly boost prices of short bonds." My question is: Are we considering the effect on an existing instrument or a new instrument? My understanding is: It is applicable for both kinds of instruments: existing and new. For an existing instrument: Suppose there is a short term bond of 3 years with coupons of 4% each year and 100 payable at the end of 3 years. Suppose yield is 3% and price is 105. Now, reduction in short-term interest rates (say new 3 year ZCB rate is 2.9%) => investors will prefer the short term bond with coupon (coupons have nothing to do with this though) which gives a yield of 3% if bought at 105 held to maturity => demand for this short term bond will increase => price will increase. For a new instrument: (not sure how this will work) Am I right for most of the part? (also, I have a feeling I will be banned from here, I'm asking just too many questions. *feeling slightly discomforted*
That's right, the prices of new and existing bonds are being boosted here. Asking questions is what the forum is for
