When FED announces to increase interest rates? What should happen to stock market portfolio price?
1. Price should drop.
2. Price should Increase.
3. Price should drop by a magnitude closer to the drop seen in a 20-year zero-coupon bond than to that in a 1-year bond.
4. Price increase because expected return increases.
When the FED increases the rate, then the rate of discount or the cost of capital goes up.
Thus, the future share price and dividend will be descounted at a higher interest rate, leading to a drop in share price.
Such drops are generally temporary because FED keeps revising rate from time to time and one rate in general doesn't have a horizon of more than 1 years.
Thus, price will drop but to an extent of that in a 1 year bond only.
ONLY STATEMENT 1 is correct.
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