Hi guys,
I’ve been reading this example question a few times and I don’t understand why the answer is C in the CFA material. I thought the answer would be A, as the coupon payments for a partially amortized bond are lower than the fully amortized bond? Could someone explain? Thanks.
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By “coupon payment” they mean the interest portion of each payment, not the total amount (principal and interest) of each payment.
Because the principal will not be paid down fully on the partially amortizing loan, the remaining balance will be higher on the partially amortizing loan than on a similar fully amortizing loan (except at initiation, when they’ll be equal). A higher balance results in a higher coupon (interest) payment for the same coupon (interest) rate.
Ah okay, the terminology is a bit tricky there since I’m used to vanilla bonds’ “coupon payments” which are by nature only interest!
Thanks!
My pleasure.