Unit Ch 15 & 16

For what reasons is duration a key concept in fixed-income portfolio management? - It is a simple measure of the degree of credit (or default) risk of a security. - It is used to determine the interest rate sensitivity of a portfolio. - It is a simple summary statistic of the effective average maturity of the portfolio. - It turns out to be an essential tool in immunizing portfolios from interest rate risk.

- It is used to determine the interest rate sensitivity of a portfolio. - It is a simple summary statistic of the effective average maturity of the portfolio. - It turns out to be an essential tool in immunizing portfolios from interest rate risk.

What would contribute to the negative slope of a yield curve?

- Negative Liquidity premium - Decreasing expecting short rates

When the coupon rate of a bond decreases, its duration Blank______.

increases

The idea that the forward rate differs from the expected short rate because of supply and demand issues, with the forward rate usually higher, is termed ____________ __________ theory.

liquidity preference

The compensation for holding a less-traded bond, defined as the difference between the forward rate and the expected future short interest rate, is the _______ _________.

liquidity premium

The percentage change in a bond's price from a change in interest rates is best approximated by the negative of the product of the change in the bond's yield to maturity and Blank______.

modified duration

The yield curves typically published in the financial press are ______, and the ones used to discount cash flows are ______.

on the run; pure

If it were possible to risklessly profit by bond stripping or reconstitution, it would be a violation of the Law of ___________ ____________.

one price

The ________ ________ ________ swap is pursued not in response to perceived mispricing, but as a means of increasing return by holding higher-yield bonds.

pure yield pickup

The __________ _________ swap is pegged to interest rate forecasting.

rate anticipation

Bond __________ is the act of combining stripped Treasury securities to re-create the original Treasury bond.

reconstitution

An interest rate for a period (often a year) available at different points in time is a(n) ______________ rate

short

The liquidity premium compensates ______-______ investors for the uncertainty about the price at which they will be able to sell their ____-____ bonds at the end of the year.

short-term; long-term

Which statements about the interest rate sensitivity of bonds are correct?

- The sensitivity of bond prices to changes in yields increases at a decreasing rate as maturity increases. - As yields increase, bond prices fall. - An increase in a bond's yield to maturity results in a smaller price change than a decrease in yield of equal magnitude

Which of the following statements regarding duration is true?

- holding the coupon rate constant, a bond's duration generally increases with its time to maturity - The property of duration corresponds to Malkiel's third relationship.

Which equations define the forward interest rate fn as a function of the current zero-coupon bond spot rates yn and yn-1?

1. (1+ yn)n = (1+ yn-1)n-1 (1+ fn) 2. fn = (1+yn)n(1+yn−1)n−1(1+yn)�(1+yn-1)�-1 - 1

Order the steps in calculating the duration of a bond.

1. Determine the size and timing of all cash flows(CFt) from the bond 2. Determine the present value of each cash flow (PV of CFt) 3. Calculate the weight wt of each cash flow 4. Multiply the cash flow weight by the number of periods until it occurs (t*wt) 5. Sum the product of the times and weights to generate the weighted average

If you want to obtain a forward loan that begins in year 3 and ends in year 5, you would issue a ______-year zero-coupon bond and buy a ______-year zero.

5; 3

The measure of the average life of a bond, defined as the weighted average of the times until each payment is made, with weights proportional to the present value of the payment, is the definition of _________ _________.

Macaulay's duration

If there is a positive liquidity premium and expected short interest rates are constant, then the yield curve will have ______ slope.

Positive

Bond A is a 10-year zero-coupon bond with yield to maturity of 10%. Bond B is a 15-year semi-annual coupon bond with yield to maturity of 10% and duration of 10 years. If the yields of both bonds increase to 10.25%, what can we reasonably predict?

The bonds will have a similar percentage change in price.

True or false: The analysis that accounts for patterns of interest rates for different-term assets and the term structure of interest rates focuses on the structure of interest rates for discounting cash flows at different maturities.

True

For an upward sloping yield curve, a(n) __________ average forward rate must be added to the other previously observed rates in order to increase the yield to maturity

above-

Holding interest rates constant, for bonds selling at par or at a premium to par, duration Blank______ increases with time to maturity. Multiple choice question.

always

According to the expectations hypothesis, an upward-sloping yield curve indicates that investors are expecting ______ in interest rates.

an increase

Suppose the yield to maturity of a 10-year zero-coupon bond is 2% currently. If the yield increases to 2.25%, the modified duration formula predicts that the bond price will Blank______. (Note: you should not need a calculator to solve this question.) Multiple

decrease 2.45%

According to the expectations hypothesis, the forward rate ________ the market consensus for the future short rate.

equals

The theory that forward interest rates are unbiased estimates of expected future interest rates is termed the ______ _______.

expectations hypothesis

If the yield to maturity of a bond increases, then its sensitivity to interest rate changes __________.

falls

A contract signed now for a loan that would not begin until a later date would be likely to use the ______.

forward interest rate

The rate of interest for a future period, inferred from the term structure, that would equate the total return of holding a long-term bond with that of rolling over shorter-term bonds is the _________ _________ rate.

forward; future interest; short

When interest rates are uncertain, the interest rate that will actually be in effect for a given period that begins at a later time is termed the ___________ ___________ rate.

future; forward short; interest

The current interest rate appropriate for discounting a cash flow of some given maturity, in other words the rate that prevails today for a zero-coupon bond of that maturity, is the _________ rate.

spot

The current interest rate appropriate for discounting a cash flow of some given maturity, in other words the rate that prevails today for a zero-coupon bond of that maturity, is the ___________ rate.

spot

The ____________ swap is an exchange of one bond for a nearly identical substitute.

substitution

The pattern of interest rates appropriate for discounting cash flows of various maturities is the _________ __________

term structure

Bond H and Bond L are zero-coupon bonds that have 10-years remaining until maturity, but Bond H has a higher yield to maturity than Bond L. Bond H's duration is Blank______ Bond L's duration. When the yields of both bonds increase by 50 basis points, the percentage drop in bond price will be Blank______.

the same as; greater for Bond L than Bond H

Holding the coupon rate constant, a bond's duration Blank______ increases with its time to maturity.

usually

The change in a bond's price predicted by the modified duration formula from an interest rate change is most accurate when the change in interest rates is _________.

very small

The graph of yield to maturity as a function of term to maturity is the _________ __________.

yield curve