Which investment would be most exposed to interest rate risk?

Which investment would be most exposed to interest rate risk?

• A. Corporate stocks
• B. U.S. Treasury Bonds
• C. Cash equivalents
• D. Long-term U.S. Treasury Bonds

Answer: (B)

Interest rate risk is the risk that bond prices fall when market rates rise. The extent of a bond’s price change depends on duration—the longer the time to maturity and the smaller the coupon, the higher the duration and the more sensitive the price is to rate changes. Cash equivalents are short-term and show minimal price movement, and corporate stocks are influenced by many factors beyond interest rates. Among the bonds, a long-term U.S. Treasury Bond has the highest duration, so its price is most sensitive to changes in rates. That makes it the investment with the greatest exposure to interest rate risk.

Interest rate risk is the risk that bond prices fall when market rates rise. The extent of a bond’s price change depends on duration—the longer the time to maturity and the smaller the coupon, the higher the duration and the more sensitive the price is to rate changes. Cash equivalents are short-term and show minimal price movement, and corporate stocks are influenced by many factors beyond interest rates. Among the bonds, a long-term U.S. Treasury Bond has the highest duration, so its price is most sensitive to changes in rates. That makes it the investment with the greatest exposure to interest rate risk.