Question

What factors determine the required return on bonds?

Answer 1

Answer: These factors determine the required return on bonds-

Credit rating- Bond is given credit rating based on their repayment and interest payment capacity. If bond has good rating, the required rate of return comes down and if a bond is junk bond or it has lower rating then it has to pay high return (yield).

Maturity- If economic conditions remain stable and good then long term bonds pay higher return vs short term bonds. Investors who invest their money for longer term, expect higher rate of return.

Inflation- Inflation affects the return on bonds. If inflation increases, required rate of return increases and bond price decreases and vice versa.

Risk- If a bond is junk bond, high risky bond, required rate of return will increase and on the other hand if it is safe and secured like U.S treasury bond, it will provide lower return.