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1 Financial Markets and Products & Valuation and Risk Models 1. In managing a portfolio of domestic corporate bonds, which of the following risks is least important? A. Interest rate risks B. Concentration risks C. Spread risks D. Foreign exchange risks 2. Use a stated rate of 9% compounded periodically to answer the following three questions. Select the choice that is the closest to the correct answer. (1) The semi-annual effective rate is: (2) The quarterly effective rate is: (3) The continuously compounded rate is: 3. The following Treasury zero rates are exhibited in the marketplace: 6 months = 1.25% 1 year = 2.35% 1.5 years = 2.58% 2 years = 2.95% Assuming continuous compounding, the price of a 2-year Treasury bond that pays a 6 percent semiannual coupon is closest to: A. 105.20 B. 103.42 C. 108.66 D. 105.90 4. A two-year zero-coupon bond issued by corporate XYZ is currently rated A. One

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2 year from now XYZ is expected to remain at A with 85% probability, upgraded to AA with 5% probability, and downgraded to BBB with 10% probability. The risk free rate is flat at 4%. The credit spreads are flat at 40, 80, and 150 basis points for AA, A, and BBB rated issuers, respectively. All rates are compounded annually. Estimate the expected value of the zero-coupon bond one year from now (for USD 100 face amount). Fixed Income Securities: 5. Assuming the long-term yield on a perpetual note is 5%, compute the dollar value of a 1 bp. Increase in the yield (DV01) for a perpetual note paying a USD 1,000,000 annual coupon. 6. Given the following portfolio of bonds: What is the value of the portfolio’s DV01 (Dollar value of 1 basis point)? 7. Assuming other things constant, bonds of equal maturity will still have different DV01 per USD 100 face value. Their DV01 per USD 100 face value will be in the following sequence of highest value to lowest value: A. Premium bonds, par bonds, zero coupon bonds B. Zero coupon bonds, Premium bonds, par bonds C. Premium bonds, zero coupon bonds, par bonds D. Zero coupon bonds, par bonds, Premium bonds 8. Which of the following statements about standard fixed rate government bonds with no optionality is TRUE? I. Higher coupon implies shorter duration. II. Higher yield implies shorter duration. III. Longer maturity implies larger convexity.