Question

2. An investor, with an investment horizon of 10 years is considering purchasing a bond with a Macaulay Duration of 12. If the investor goes through with the purchase she will be subject to ________ risk and be worse off if interest rates ________.

reinvestment; go up	reinvestment; go down
interest rate; go down	none of the above.

3. What is the Approximate Modified Duration of a 20 year bond, making semiannual coupon payments, with a coupon rate of 5% selling at par, considering a 50 bps change in the discount rate?

12.58	5.46
10.95	none of the above.

Table 14.0 (for questions 14 and 15). Information regarding Bond G, sold for settlement on June 16, 2014.

Annual Coupon	5%
Coupon Payment Frequency	Semiannual
Interest Payment Dates	10 April and 10 October
Maturity Date	10 October 2016
Day-count Convention	30/360
Annual Yield-to-Maturity	4%

4. For Bond G listed in Table 14.0 what is the accrued interest per 100 of par value on the settlement date of June 26, 2014 is:

1.06	0.75
0.92	none of the above.

5. What is the full price, at settlement on June 26, 2014, of Bond G in Table 14.0?

101.90	103.84
104.11	none of the above.

Answer 1

1). None of the above. Since duration > investment horizon, market price risk will dominate.

2). Approximate modified duration = (PV- less PV+)/(2*PV0*change in yield) where

PV0 = bond purchase price = 100

PV- = Bond price when yield decreases by 0.5%

PV+ = Bond price when yield increases by 0.5%

Using PV() function in excel:
FV = 100; PMT = 2.5 (5%*100/2); N = 40 (20*2); I = 5% - 0.5% = 4.5%

PV- = 106.55

FV = 100; PMT = 2.5 (5%*100/2); N = 40 (20*2); I = 5% + 0.5% = 5.5%

PV+ = 93.98

Approximate modified duration = (106.55-93.98)/(2*100*0.5%) = 12.57 years.