Question

If bond has lowest seniority, what would you expect to happen to the returns required by...

If bond has lowest seniority, what would you expect to happen to the returns required by investors on this bond

Homework Answers

Answer #1

The returns required by the bond which has the lowest seniority will be the highest.

There is an inverse relationship between the bond's seniority level and interest amount charged. So the lowest senior bond will have the highest interest amount.
This is done in order to compensate this investor for taking a higher amount of risk i.e. if the company becomes bankrupt or liquidates its assets, then the bond with the lowest seniority will be paid in the end after paying the bonds with the highest seniority (from the proceeds of assets sold) and there can be a possibility that the lowest seniority bond doesn't get back its principal amount also. Hence, they are compensated with higher interest rate.

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