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Bonds pay a fixed amount of interest. Why do rising interest rates cause bond prices to fall?

If you have a bond that only pays 6% interest and new ones are paying 8%, the new bonds - not yours - will be worth more.

If you wanted to sell, you'd have to discount your bond to give the buyer a capital gain at maturity that compensates for your bond's lower interest rate. This means that the buyer would end up with a total return or yield - the combination of fixed interest income the bond pays plus, in this case, a capital gain - of about 8%. On the other hand, if your bond pays 6% and new ones are only paying 4%, yours will be worth more. And since your bond is worth more, you wouldn't sell it for the same price as a bond paying lower interest. In fact, you'd put a big mark-up on it so that whatever capital loss the buyer incurs at maturity brings your bond's yield down to around 4%. Bond prices move in opposite directions to interest rates. When rates go up, bond prices fall. When rates go down, bond prices rise. If you buy a $1,000 bond, its principal value, also known as its full face value or par value, is $1,000. You will earn a capital gain or realize a capital loss on your bond because you rarely pay face value for a bond. If you pay less, you earn a capital gain when the bond issuer pays you the full face value at maturity. If you pay more than face value, you'll realize a capital loss when the bond matures. By adding your capital gain or loss to the money the bond pays you in interest, you arrive at your bond's yield to maturity. Interest on most bonds is paid twice a year. If your $1,000 bond pays 6% interest, you will receive $60 a year -- $30 every six months. The interest rate is known as the coupon rate. The best time to buy bonds is when interest rates are about to fall since this pushes up their prices. If you sell, you can make a capital gain, which is appealing since capital gains are taxed less than interest. Mind you, predicting the path of interest rates isn't easy. The biggest influence on interest rates is inflation. When inflation rises, interest rates are forced up. The reason? Investors and lenders have to earn higher rates of interest to stay ahead of inflation. Otherwise, the buying power of their money will be eroded. As soon as signs of rising inflation appear - such as higher prices for consumer goods - you'll see bond prices start to fall.