George's bonds fell in price on news of higher interest rates. To which one of the following risks are George's bonds most likely to be subject?

George's bonds fell in price on news of higher interest rates. To which one of the following risks are George's bonds most likely to be subject?

• A. Financial risk
• B. Reinvestment risk
• C. Interest rate risk
• D. Default risk

Answer: (C)

George's bonds are most likely to be subject to interest rate risk, which refers to the potential for bond prices to fall when interest rates rise. When interest rates increase, newly issued bonds typically offer higher yields, making existing bonds with lower rates less attractive to investors. As a result, the market price of those existing bonds, including George's, declines in order to remain competitive. This phenomenon directly ties the value of a bond to fluctuating interest rates and is a fundamental characteristic of fixed-income investing. Understanding this concept is crucial for investors because it highlights the importance of monitoring interest rate trends when holding bonds. While other risks, such as financial risk, reinvestment risk, and default risk, can also impact a bond's performance, growth or decline in bond prices due to interest rate changes specifically defines interest rate risk.

George's bonds are most likely to be subject to interest rate risk, which refers to the potential for bond prices to fall when interest rates rise. When interest rates increase, newly issued bonds typically offer higher yields, making existing bonds with lower rates less attractive to investors. As a result, the market price of those existing bonds, including George's, declines in order to remain competitive. This phenomenon directly ties the value of a bond to fluctuating interest rates and is a fundamental characteristic of fixed-income investing.

Understanding this concept is crucial for investors because it highlights the importance of monitoring interest rate trends when holding bonds. While other risks, such as financial risk, reinvestment risk, and default risk, can also impact a bond's performance, growth or decline in bond prices due to interest rate changes specifically defines interest rate risk.