Consider two bonds that are identical except for their coupon rates. The bond that will have the highest interest rate risk most likely has the: a) highest coupon rate. b) coupon rate closest to its market yield. c) lowest coupon rate.

The bond that will have the highest interest rate risk most likely has the:

c) lowest coupon rate.

Here's why:

Interest rate risk is the risk that the value of a bond will fluctuate due to changes in the structure or level of interest rates. When interest rates rise, bond prices fall, and vice versa.

The bond with the lowest coupon rate will have the highest interest rate risk because it pays less interest to the bondholder throughout the life of the bond. Therefore, a larger portion of the bond's total return is dependent on the repayment of the principal at maturity.

If interest rates rise, the present value of that future repayment decreases, causing a larger decrease in the bond's price compared to a bond with a higher coupon rate.

In contrast, a bond with a higher coupon rate pays more interest throughout its life, making a smaller portion of its total return dependent on the repayment of the principal. Therefore, it is less sensitive to changes in interest rates.

So, the lower the coupon rate, the higher the interest rate risk.