Duration Model

Duration Model - 15% at maturity. • What are the cash...

Info iconThis preview shows pages 1–5. Sign up to view the full content.

View Full Document Right Arrow Icon
Duration Model 1 Advantages of Duration Modeling: Unlike the Maturity Model, the Duration Model considers the following conditions: Maturity distributions (short, intermediate, long). Degree of leverage. Timing of cash flows and TVM. Like the Maturity Model, the Duration Model considers the following condition:
Background image of page 1

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
Understanding Duration 2 1. Understand the concept of duration. 2. Learn how to calculate duration. 3. Understand the economic meaning of the result. 4. Show how the duration measure can be used to immunize the FI against interest rate risk.
Background image of page 2
A Simple Illustrative on Duration 3 Bank loans client $100 for one-year at 15%. Client agrees to repay loan in two, equal principal payments of $50 each, plus accrued interest. Bank finances the loan with a one-year CD, on which it pays
Background image of page 3

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
Background image of page 4
Background image of page 5
This is the end of the preview. Sign up to access the rest of the document.

Unformatted text preview: 15% at maturity. • What are the cash flows? A Simple Illustrative on Duration 4 • At the time of the first payment, six months of interest is due on the full principal amount, plus a principal payment is due: ($100)(15%/2) = $7.50 + $50.00 = $57.50 • The new principal balance is: $100.00 - $50.00 = $50.00 → Principal on which interest is now based • At the end of the year, the second payment A Simple Illustrative on Duration 5 • The bank has to wait to receive these cash flows. • Based on the time value of money, we can compare the relative value of these two cash flows by discounting them back to today. – The loan rate is 15% (1/2 year is 7.5%). • The PV of the cash flows is: PV = FV/(1 + r ) t 1/2 Year...
View Full Document

This note was uploaded on 01/26/2012 for the course FIN 4620 taught by Professor Patriciarobertson during the Spring '12 term at Kennesaw.

Page1 / 5

Duration Model - 15% at maturity. • What are the cash...

This preview shows document pages 1 - 5. Sign up to view the full document.

View Full Document Right Arrow Icon
Ask a homework question - tutors are online