Quiz 2 p's

# Quiz 2 p's - Discuss explain the concept of duration...

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Discuss & explain t he concept of duration & convexity in the context of asset and liability matching for coupon & z ero coupon bond portfolios. (up to 10 marks) Answer Selected Answer: Duration and convexity are commonly used for asset-liability matching because they provide important measurements of the price sensitivity of various securities in response to fluctuating interest rates. Duration is based on the assumption that only one interest rate is used. The duration equation provides an approximate ratio of the percentage loss in the value of a security per unit of interest rates. The matching approach takes into consideration that the liabilities/assets have a certain market value. Market values change as time passes and as interest rates change which also presents difficulties. Duration matching matches the duration and the market value of assets and liabilities. Duration and convexity matching is more efficient for larger shifts in the yield curve. For large interest rate changes, an asset portfolio must be constructed in which the convexity of assets and liabilities as well as the duration and market value are matched. The goal of this approach is to accomplish both the assets and liabilities having the same market value and interest rate sensitivity--they are hedged or immunized against interest rate risk. When using this approach for coupon and zero coupon bomd protfolios, three equations must be solved to construct the portfolio: Asset market value= Liability market value, Asset dollar duration= Liability dollar duration, and Asset dollar convexity= Liability dollar convexity. Correc t Answer: [None] Response Feedback: [None Given] Question 2 1 out of 1 points M r. X invests \$1000 a t 10% nominal rate for one year. If the inflation rate is 4%, what is the real value of the investment at the end of one year? Answer Selected Answer: \$1058 Correct Answer: \$1058 Response Feedback: Real investment = (1000 * 1.1)/(1.04) = \$1058 Question 3 1 out of 1 points The following ent ities issue bo nds to raise long- term loans except: Answer Selected Answer: Individuals Correct Answer: Individuals Response Feedback: correct Question 4 1 out of 1 points

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A 3-year bond with 10% coupon rate and \$1000 face value y ie lds 8% APR. Assumi ng annual coupon payment, calculate the price of the bond. Answer Selected Answer: \$1051.54 Correct Answer: \$1051.54 Response Feedback: PV = (100/1.08) + (100/(1.08^2)) + (1100/(1.08^3)) = \$1051.54 Question 5 0 out of 1 points The term structure of interest rates can be described as the: Answer Sele cted Answer: None of the abov e Correct Answer: Relationship between spot interest rates and maturity of a bond Response Feedback: incorrect Question 6 1 out of 1 points There are two types of equity related bonds: Answer Selected Answer: Convertible bonds and bonds w ith equity w ar rants Correct Answ er: Convertible bonds and bonds with equity warrants Response Feedback: correct Question 7 1 out of 1 points The role of an underwriter is to Answer Selected Answer: All of the above.
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