FIN 4663 - Chapter 9-10

Dynamic immunization is primarily aimed at reducing inflation. A. True B. Fasle

false

What is the price of a Treasury bill that matures in 67 days with a $340,000 face value and an asked yield of 1.84%? Bill Price=Face value(1-time to maturity360yield) A. $339,216.71 B. $338,851.64 C. $335,808.48 *D. $338,835.69

$338,835.69

What is the current selling price of a new issue zero-coupon bond with a face value of $1,000, 5 years to maturity, and a promised YTM of 6%? Formula: PV=FV/(1+i)^t

$747.26

The rate on a particular money market instrument, quoted on a discount basis, is 4 percent. The instrument has a face value of $100,000 and will mature in 71 days. What is its price? Current price= FV* (1-(days to maturity/360)* Discount yield) *A: $99,211.11 B: $99,290.99 C: 0 D: $99,234.80

$99,211.11

he rate on a particular money market instrument, quoted on a discount basis, is 4 percent. The instrument has a face value of $100,000 and will mature in 71 days. What is its price? Current price= FV* (1-(days to maturity/360)* Discount yield)

$99,211.11

Which of the following is a correct statement in the modern view of the term structure about Nominal Interest rates on default-free securities, where: NI = Nominal interest rate RI = Real interest rate IP = Inflation premium RP= Interest rate risk premium

* A. NI = RI + IP + RP

You want to have $2,500 saved after the period to put down for a new car, how much would you need to put away if you were to invest your money with the same conditions given in A without touching the account until the end of the period? Present Value = Future Value * (1+r)-N FV=$2,500 PV= ? r=10% N= 5 Years. PV= $2,500 * (1 + 0.10) -5 PV= $2,500 * (0.6209) PV= $1,552.30

* a) $2,415.77; $1,552.30

Calculate the Current Yield of a bond with a face value of $1,000, paying 50$ annual coupon payments and is currently priced at $1,168. a) 5.67% *B) 4.28% c) 6% d) 7.8%

4.28%

We have a bond with a Macaulay duration of 7 years, and its yield increases from 8% to 8.5%. How will the price of this bond change in %? % change in bond price ≈ - Duration * Δ in YTM (1+YTM/2) A. 3.37% * B. -3.37% C. 3.5% % change in bond price ≈ % Δ in bond price ≈ - 7 * (0.085 - 0.08) (1+0.04) -3.37% D. -2.9%

-2.9

2. You have a portfolio containing 63% of stock A and 37% of stock B. What is the expected return on this portfolio? State of Probability of Rate of return if state occurs Economy state of economy stock A stock B Boom 15% 22% 13% Normal 80% 11% 10% Recession 5% -28% 4% Expected return of stock=(ProbabilityBRate of ReturnB)+(ProbabilityNRate of ReturnN)+(ProbabilityRRate of ReturnR) Expected return of portfolio=(Weight of StockAExpected Return of StockA)+(Weight of StockBExpected Return of StockB)

10.5

A typical credit card may quote an APR of 24 percent. On closer inspection, you will find that the rate is actually 2 percent per month. What annual interest rate are you really paying on such a credit card? 1+EAR= (1+(APR/M)^M A:24% B:22% C: 27.9 *D: 26.8%

26.8

A typical credit card may quote an APR of 24 percent. On closer inspection, you will find that the rate is actually 2 percent per month. What annual interest rate are you really paying on such a credit card? 1+EAR= (1+(APR/M)^M

26.8%

Phil owns a 7 percent, semiannual coupon bond that has a face value of $1,000 and matures in 16 years. The bond has a current yield to maturity of 7.1 percent. What will the percentage change in the price of his bond be if interest rates decrease by 50 basis points? A. 5.17 B. 4.33 C. 4.68 D. 5.26 E. 4.91*

4.91

A bond with an annual coupon rate of 4.8% sells for $970. What is the bond's current yield? A) 3.5% B) 5.2% C) 2.4% *D) 4.95% Current Yield 4.8%/$970=4.95%

4.95%

Calculate the coupon rate of a bond with a $1,000 face value and pays a semiannual coupon of $25. Coupon Rate = Annual Coupon / Par Value *A) 5% b) 7% c) 4% d) 2.5%

5%

On a new car loan, you pay a 5% APR, but you know that in reality its more than that, but how much is it really? a) 5% b) 5.5% EAR=? APR= 5% m= 12 Months 1+EAR= (1+ (0.05/12)) 12 EAR= 1.0512 - 1 EAR= 0.0512 or 5.12% * c) 5.12% d) 5.3%

5.12

You are approved for a $5,000 loan with a 6.4% APR with monthly compounding of interest. What is the Effective Annual Rate of this credit card? EAR=(1+ Interest Rate# of compounding periods)# of compounding periods-1 A. 5.29% *B. 6.59% C. 6.53% D. 7.12%

6.59%

If a 7.5% coupon bond is trading for $1050.00, it has a current yield of ____________ percent. A) 7.0 B) 7.4 *C) 7.1 D) 6.9 E)6.7

7.1

On January 1st, 2018 someone bought a bond with an annual rate of 7% paid semi-annually that matures in 10 years and has a face value of $1,000. After a full year, the bond holder wants to sell the bond, what is the Yield to Maturity of the bond considering it has a price of 110? Bond price = C _ (1 - 1_____) + FV_____ YTM (1+YTM/2)2M (1+YTM/2)2M With this formula, the only way to calculate yield is by trial and error. However, it is easier to calculate with a financial calculator. To calculate yield with a financial calculator, input the given values as follows: FV= $1,000 PMT= 7%/2 * %1,000 = $35 PV= $1,100 n= (10 - 1) * 2 = 18 Therefore; to get current yield we solve for I, which is: 3.87. Then, 3.87 * 2 = 7.74% * A. 7.74% B. 7.5% C. 6.8% D. 6.5%

7.74%

A bond has a Macaulay duration of 8.5 years and a yield to maturity of 9 percent. What is its modified duration? Formula: Macaulay duration/(1+(i/2))=modified duration

8.134

1) Define, explain, and give examples of a U.S. Treasury bill (T-bill).

A U.S. Treasury bill, also known as T-bill, is a short-term U.S. government debt instrument issued by the U.S. Treasury. The Treasury bill market is the world's largest market for new debt securities with one year or less to maturity. As such, the Treasury bill market leads all other credit markets in determining the general level of short-term interest rates. An example regarding T-bill's are Money Rates, which report Treasury bill interest rates set during recent weekly Treasury bill auctions. Interest rates determined at each Treasury bill auction are closely watched by professional money managers throughout the world.

Define, explain and give an example of a Bond:

A bond, also known as a fixed-income security, is a debt instrument created for the purpose of raising capital. They are essentially loan agreements between the bond issuer and an investor, in which the bond issuer is obligated to pay a specified amount of money at specified future dates. Some examples are: Corporate bonds and Government Treasury bonds.

Define, Explain, and give an Example of a certificate of Deposit.

A certificate of Deposit is a product offered by banks that offers interest rate premium in terms that a customer agrees to leave a deposit that is kept untouched for a predetermined period of time.

Define, explain and give examples of a covered call.

A covered call is when a portfolio consists of a long position in a stock plus a short position in a european call option. The long stock position ''covers'' or protects the investor from the payoff on the short call that becomes necessary if there is a sharp rise in the stock price. An investor owns shares of hypothetical company TSJ. They like its long-term prospects as well as its share price but feel in the shorter term the stock will likely trade relatively flat, perhaps within a couple dollars of its current price of $25. If they sell a call option on TSJ with a strike price of $27, they earn the premium from the option sale but cap their upside on the stock to $27. Assume the premium they receive for writing a three-month call option is $0.75 ($75 per contract or 100 shares).

Define, explain, and give examples of a Dedicated Portfolio

A dedicated portfolio is a bond portfolio formed for a specific purpose or liability in the future. A good example of the firms that use this are Pension Funds. Pension funds could have 50 million do in 4 years. The create a dedicated portfolio with bonds that will give them a target value of 50 million in 4 years to pay their liability.

Define, explain, and give examples of discount bonds.

A discount bond is said to be a bond with a price less than par value. The yield to maturity of a discount bond is greater than its coupon; usually discount bonds do not pay a coupon and offer returns in the form of capital gains. The most common example of a discount bond is a zero-coupon bond.

Define, Explain, and give an Example of a Forward rate

A forward rate is an interest rate from a financial transaction that takes place in the future. An example of a forward rate would be an American exporter undertakes to sell a 10 million euros in exchange for dollars with a forward rate of 1.35. The exporter needs to deliver the euros at a specific date and time.

Define, explain and give an example of pure discount instruments

A single payment of face value at maturity with no other payments until then. Ex: a zero coupon bond

Define, explain, and give examples of straight bonds.

A straight bond is an IOU that obligates the issuer to pay the bondholder a fixed sum of money at the bond's maturity along with constant, periodic interest payments during the life of the bond. The fixed sum paid at maturity is referred to as bond principal, par value, stated value, or face value. The periodic interest payments are called coupons. Perhaps the best example of straight bonds is U.S. Treasury bonds issued by the federal government to finance the national debt.

Federal discount rate is the interest rate that banks charge each other for overnight loans. A: True *B: False

false

The fixed sum paid at maturity is referred to as a) Face Value b) Bond Principal c) Par Value *D) All of the above

ALl of above

Money Market rates are usually quoted as: A: Effective annual rate (EAR) *B: Annual percentage rate (APR) C: Bond equivalent yield D: None of these

Annual percentage rate (APR)

2. Define, explain, and give examples of asset allocation.

Asset allocation is the way that an investor spreads money in a portfolio among different broad asset classes. Investors may invest a portfolio of 100% stock or 100% bonds or some other split. However, going all the way into one asset class may actually be pointless. While it would seem that investing only in low-risk bonds would lower your risk more, it is possible that you are actually gaining risk while making your returns lower. Allocating some of these bond investments into equity could lower the standard deviation of risk while also earning you higher returns. Proper allocation of resources can give you a more efficient portfolio.

Most American bonds pay interest annually. A. True *B. False

false

Nominal interest rates are observed interest rates that are adjusted for price inflation. A. True *B. False

false

T- bills guarantees investors a positive real rate of return? a)True * B. False

false

Define, explain, and give examples of banker's acceptance.

Banker's acceptance is a postdated check for which banks guarantee payment, and it is usually used to finance international trade. For example, if you wish to import a shipment of clothing from a company in Indonesia but wish to pay for the shipment four months after it is delivered, you can write the exporter a banker's acceptance. If accepted by the bank, then the bank will guarantee the exporter payment on the date written on the check. Once delivery is made, this check can be kept or sold in the money market by the exporter.

Usually, a bond issuer has the option to buy back their own bond before its maturity. This kind of bonds are called: * A. Callable Bond. B. Zero-coupon Bond. C. Fake Bond. D. Family Bond.

Callable Bond

Which of the following refers to a bonds annual coupon amount divided by its par value? A. Current yield B. Expected return C. Effective annual rate *D. Coupon rate

Coupon rate

A bond's ________ is its annual coupon payment divided by its current market price a) Coupon Rate b) Slated Value *C) Current Yield d) Duration

Current Yield

Which of the following refers to a bonds discount rate that equates the bonds price with the computed present value of its future cash flows? *A. Yield to maturity B. Yield to call C. Discount rate D. Internal rate of return

Yield to maturity

Define, explain and give an example of what is Duration:

Duration is a measure of the sensitivity of the price of a bond or other debt instrument to a change in interest rates. For example, the higher the duration, the more a bond's price will drop as interest rates rise (and the greater the interest rate risk).

Which one of the following is not a money market instrument? Federal Funds Rate Certificate of deposit US Treasury Bond * Electronic Check

Electronic Check

2) Which one of the following is defined as U.S. dollar-denominated deposits held in a foreign bank? *A. Eurodollars B. Foreign funds C. Certificates of deposits D. Banker's acceptances

Eurodollars

Federal discount rate is the interest rate that banks charge each other for overnight loans. True *False

False

Which one of the following rates is the rate that banks charge each other for overnight loans of loans of $1 million or more? *A. Federal Funds b. Institutional c. Daily d. Monetary

Federal Funds

A dedicated portfolio is a bond portfolio created to: A. Fund a future cash outlay.* B. Provide an increasing steady stream of income. C. Maximize current interest income. D. Avoid taxation E. Maximize the return given interest rates.

Fund a future cash outlay.

What about securities that are not default free and/or highly liquid?

In this case, we can consider that there are 5 components to the nominal interest rate: The real interest rate, the inflation premium, the interest-risk premium, liquidity premium, and the default premium. NI = RI + IP + RP + LP + DP

Explain, define, and give examples of interest rates risk.

Interest rates risk is simply the possibility a bond has of losing value due to changes in interest rate. For example, aa bond issued one year ago has a coupon payment of 8% paid semiannually. Since then, interest rates have increased one percent. Hence, the price of such bond will increase to compensate those buying the bond for the interest they are giving up by buying this bond over one paying the current interest rate, which is higher than the bond's.

Which of the following is true about the Macaulay Duration calculation? * A. It is less accurate with large changes in yields. B. It only works when the interest rate at the time of maturity is known. C. It helps in calculating the coupon of a bond D. Does not work for bonds with more than 5 years to maturity.

It is less accurate with large changes in yields.

Define, explain and give examples Money market.

Money market basically refers to a section of the financial market where financial instruments with high liquidity and short-term maturities are traded. It is used by the participants as a way of borrowing and lending for the short term. Examples of money markets: treasury bills, commercial paper, bankers' acceptances, deposits, certificates of deposit, bills of exchange, repurchase agreements, federal funds, and short-lived mortgage- and asset-backed securities.

Which if the following is correct about STRIPS A. Are a kind of securities that do not pay any interest, only the face value at the end of the period. * B. New securities generated by separating principal and coupon payments and then selling them separately. C. Represent a rate without taking inflation into consideration D. Generally refers to transactions that take place outside the US.

New securities generated by separating principal and coupon payments and then selling them separately.

Define, explain and give an example of the difference between Real and Nominal Interest rates.

Nominal Interest rates are the ones handled on a regular basis by the public. It is the form in which rates are normally quoted to the public. On the other hand, Real Interest rates are nominal interest rates adjusted after inflation. In other words, the real interest rate is the actual return the investor gets after inflation. For example, if a certificate of deposit with a face value of $10,000 has a nominal interest rate of 10%, then after one year it will grow to $11,000. Given an inflation rate during the period of 3%, the real interest rate for this CD is the nominal rate (10%) minus inflation (3%). Therefore, real interest rate is 7%, meaning the $1,000 CD after one year is $10,700.

1. Which of the following portfolios will likely have the least amount of variance? A. Portfolio of 80% stocks and 20% bonds B. Portfolio of 100% bonds *C. Portfolio of 30% stocks and 70% bonds D. Portfolio of 50% stocks and 50% bonds

Portfolio of 30% stocks and 70% bonds

1) Which of the following is the basic interest rate on short-term loans that the largest commercial banks charge to their most creditworthy corporate customers. A. Bellwether rate *B. Prime rate C. Federal funds rate D. Call money rate

Prime rate

Define, explain and give examples of Principal-Protected Notes.

Principal-Protected Notes (PPN) is a structured finance product that guarantees a rate of return of at least the principal amount invested, as long as the note is held to maturity.PPN is structured as a zero-coupon bond - a bond that makes no interest payment until it matures - and an option with a payoff that is linked to an underlying asset, index, or benchmark. Based on the performance of the linked asset, index or benchmark, the payoff will vary. For example, if the payoff is linked to an equity index, such as Russell 2000, and the index rises 30%, the investor will receive the full 30% gain. In effect, the principal protected securities promise to return an investor's principal, at the time of maturity, with the added gain from the index's performance if that index trades within a certain range

Which of the following features applies to a U.S. Treasury Bill? *A. Pure Discount security b. Taxable at state level c. U.S. Agency debt d. Semi-annual interest payments

Pure Discount security

Define and explain Pure discount instruments. Give example

Pure discount instruments are securities with a single payment of face value at maturity and no other payments until then. Ex: a zero coupon bond.

Define and explain strips. Give example

STRIPS are pure discount instruments created by "stripping" the coupons and principal payments. Eg: U.S. Treasury STRIPS

2) Define, explain, and give examples of the Treasury yield curve.

The Treasury yield curve is a graph of Treasury yields plotted against maturities. Yields are measured along the vertical axis, and maturities are measured along the horizontal axis. The Treasury yield curve is fundamental to bond market analysis because it represents the interest rates that financial markets are charging to the world's largest debtor with the world's highest credit rating, the U.S. government. In essence, the Treasury yield curve represents interest rates for default-free lending across the maturity spectrum

Define, explain, and give an example of the fisher hypothesis.

The fisher hypothesis suggests that short-term interest rates reflect inflation and long-term interest rates reflects investors' expectations of future inflation. Nominal interest rates are dependent on inflation, given that nominal rates are generally higher than inflation. Historically, Treasury Bill rates have been higher every time inflation increases.

Define, explain, and give examples of the flight to quality phenomenon.

The flight to quality phenomenon is that in which U.S. Treasuries, due to being one of the world's lowest-risk investments, benefit when investment backdrops become unstable due to the unfavorable events elsewhere in the international markets. When many more people would rather keep their money safe rather than take on more risk for much higher gains, there will typically be an upturn in U.S. Treasuries. Some examples of this are the issues caused by Brexit and Russia invading Crimea, causing instability in the foreign markets and making U.S. Treasuries more favorable.

1. Define, explain, and give examples of the time diversification fallacy.

The time diversification fallacy is the fallacy that you don't have to diversify your portfolio as much when younger and should have more risky assets because there is time to mitigate the risk and potential losses, but you should invest in less risk when older because there is less time to mitigate any losses. While not necessarily the wrong strategy, the reasoning isn't necessarily correct. Time only diversifies returns, but it doesn't diversify wealth. Over time, the standard deviation of returns on your assets will eventually reach near-zero, but the standard deviation of the overall wealth of the assets continues to grow. Whereas you may have steady returns on your assets with lessening risk over time, your wealth can still be wildly volatile. One example is that you want to take on more risk and average out your projected returns to be a 12% annual gain at the end of 30 years. However, this will only be true for your annualized returns rather than your total returns as well. At the end of the 30 years, a projection based on the returns can be very different from what you will receive in total returns.

Define, explain and give examples of a Yield To Maturity

The yield to maturity is the discount rate that equates the bond's price with the computed present value of its future cash flows. You could buy a bond half way through its maturity and if held till maturity the yield to maturity is the promised yield you'll make on the bond. This is seperate from the real rate or the coupon rate.

Explain, define, and give an example of Immunization by duration matching.

To immunize a portfolio, one need to match its duration to its target date. This way, changes in price due to YTMs, are offset by the reinvestment of the coupon payments. In other words, the loss caused as a result of price decreases, is made up for by the reinvestment of coupon payments at higher rates.

The particularity of TIPS is to adjust for inflation *True False

True

Which entity borrows at all maturities in segmentation theory? *U.S. Government The president Tax payers Banks

U.S. Government

Which one of the following is the largest market in the world for new debt securities with maturities of one year or less? A) Eurodollar money market *B) U.S. Treasury bill B) commercial paper C) certificates of deposit D) banker's acceptance

U.S. Treasury bill

Define, explain and give examples of zero-coupon bonds

Zero-Coupon Bond is a debt security that is sold at a discount and does not pay any interest payments to the bondholder. In other words, it's a bond that sells for less than its face value and does not make coupon payments or periodic interest payments during its life. Examples: an investor who purchases a bond at a discount for $920 will receive $1,000. The $80 return, plus coupon payments received on the bond, is the investor's earnings or return for holding the bond.

A portfolio's standard deviation decreases at a constant rate as the number of individual stocks in the portfolio increases. A. True *B. False

false

Bonds with a price less than par value are said to be selling at a premium. a)True *B)False

false

Certificates of deposit CD represent large-denomination deposits of $100,000,000 or more at commercial banks for a specified term A: True *B: false

false

1. Which one of the following borrowers will pay the rates depicted on a Treasury yield curve? A) large corporation B) high-risk borrower C) municipal government D) bank's best customers *E) default-free borrower

default-free borrower

1) A T-bond is a debt instrument that guarantees investors a positive real rate of return. A. True *B. False

false

A bond is not considered a fixed income instrument. A. True *B. False

false

A collateral trust bond is ______. *A. secured by other securities held by the firm B. secured by equipment owned by the firm C. secured by property owned by the firm D. unsecured

secured by other securities held by the firm

The invoice price of a bond is the ______. *A. stated or flat price in a quote sheet plus accrued interest B. stated or flat price in a quote sheet minus accrued interest C. bid price D. average of the bid and ask price

stated or flat price in a quote sheet plus accrued interest

1) Are Yankee bonds foreign-issued bonds sold in the U.S? *A) True B) False

true

1) The term "discount yield" refers to an interest rate quoted on a discount basis. It should not be confused with the Federal Reserve's discount rate. *A. True B. False

true

1. All else equal, when the price of a bond increases is because interest rates of newly issued bonds are lower than the coupon paid by the bond in question. * A. True B. False

true

1. Commercial Papers are short-term, unsecured debt issued by large corporations. *A. True B. False

true

2) Prime is generally considered the bellwether rate for bank loans to business firms? *A) True B) False

true

A bond that sells at a premium when it sells for a higher price than its par or face value. * A. True B. False

true

Bond prices and bond yields move in opposite directions. As a bond's yield increases, its price decreases. Conversely, as a bond's yield decreases, its price increases. *A)True b)False

true

Current yield is the annual interest divided by the market price of a bond. A. True* B. False

true

Interest Rate Risk is an adverse price movement of a bond as a result of a change in interest rates. *A - True B - False

true

The correlation coefficient of two assets that are uncorrelated is 0. *A. True B. False

true

The term bellwether applies to a rate that serves as an indicator of future trends? * A. True b. False

true

With regards to interest rates or bond yields, one basis point is 1 percent of 1 percent *A. True B. False

true

Zero Coupon Bond only pay the principal amount at maturity. *A - True B - False

true

the Federal funds rate is the rate is the interest rate that banks charge each other for overnight loans of $1 million or more. *A. True B. False

true

All of these are Money Market instruments except for? A: Feds rate B: Feds Discount rate C: T-bills *D: U.S treasury bonds

us treasury bonds