Mr. Wall believes he understands the relationship between interest rates and straight bonds but is unclear how callable bonds change as interest rates increase. How do prices of callable bonds react to an increase in interest rates? The price:
a. Increases.
b. May increase or decrease.
c. Decreases.

Patrick Wall is a new associate at a large international financial institution. Mr. Wall recently completed his finance degree and is currently a CFA Level 1 candidate. Mr. Wall€™s new position is as the assistant to the firm€™s fixed-income portfolio manager. His boss, Charles Johnson, is responsible for familiarizing Mr. Wall with the basics of fixed-income investing. Mr. Johnson asks Mr. Wall to evaluate the bonds shown below. The bonds are otherwise identical except for the call feature present in one of the bonds. The callable bond is callable at par and exercisable on the coupon dates only.

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Noncallable Callable $100.83 $98.79 Price Time to maturity (years) Time to first call date Annual coupon $6.25 $6.25 Interest payment Semiannual Semiannual Yield to maturity 6.0547% 6.5366% Price value per basis point 428.0360