Canadian Securities Course (CSC) Practice Exam

According to Liquidity preference theory, why do investors prefer short-term bonds?

1. Higher returns

2. Less volatility in price

3. Exposure to equity markets

4. Guaranteed return of initial investment at expiry

The correct answer is: Less volatility in price

Investors prefer short-term bonds because they are less volatile in price. This means that the prices of short-term bonds do not fluctuate as much as other types of bonds, such as long-term or high-yield bonds. This makes short-term bonds a safer investment choice as there is less risk of losing money due to sudden market changes. Options A, C, and D are incorrect because they do not reflect the main reason why investors prefer short-term bonds. Option A mentions higher returns, which is not a characteristic exclusively attributed to short-term bonds. Option C mentions exposure to equity markets, which is not a reason for choosing short-term bonds specifically. Option D mentions a guaranteed return of initial investment at expiry, which may be a characteristic of some short-term bonds, but it is not the main reason why investors prefer them. Therefore, option B is the correct answer as it accurately represents the main advantage of short-term bonds over other types of bonds.