Baran

 

The correct answer is A

 

The point of effective duration is to consider expected changes in cash flow from features such as embedded options. When embedded options exist, the effective duration will give a better measure of the bond’s price sensitivity to interest rate changes.

Baran

 

14、When compared to modified duration, effective duration:

A) factors in how embedded options will change expected cash flows.

B) places less weight on recent changes in the bond's ratings.

C) places more weight on recent changes in the bond's ratings.

D) is equal to modified duration for callable bonds but not putable bonds.

 

Baran

 

11、A bond with an 8% semi-annual coupon and 10-year maturity is currently priced at $904.52 to yield 9.5%. If the yield declines to 9%, the bond’s price will increase to $934.96, and if the yield increases to 10%, the bond’s price will decrease to $875.38. Estimate the percentage price change for a 100 basis point change in rates.

A) 4.35%.

B) 2.13%.

C) 8.41%.  

D) 6.58%.

Baran

 

The correct answer is D

 

The formula for the percentage price change is: (price when yields fall – price when yields rise) / 2 × (initial price) × 0.005 = ($934.96 – 875.38) / 2($904.52)(0.005) = $59.58 / $9.05 = 6.58%. Note that this formula is also referred to as the bond’s effective duration.

Baran

 

12、When calculating duration, which of the following bonds would an investor least likely use effective duration on rather than modified duration?

A) Option-free bond.

B) Callable bond.

C) Putable bond.

D) Convertible bond.

Baran

 

The correct answer is A

 

The duration computation remains the same. The only difference between modified and effective duration is that effective duration is used for bonds with embedded options. Modified duration assumes that all the cash flows on the bond will not change, while effective duration considers expected cash flow changes that may occur with embedded options.

Baran

 

9、Vijay Ranjin, CFA, is a portfolio manager with Golson Investment Group. He manages a fixed-coupon bond portfolio with a face value of $120.75 million and a current market value of $116.46 million. Golson’s economics department has forecast that interest rates are going to change by 50 basis points. Based on this forecast, Ranjin estimates that the portfolio’s value will increase by $2.12 million if interest rates fall and will decrease by $2.07 million if interest rates rise. Which of the following choices is closest to the portfolio’s effective duration?

A) 0.4

B) 3.6

C) 2.9

D) 4.3

Baran

 

The correct answer is B

 

Effective duration = (price when interest rates fall ? price when interest rates rise) / (2 × initial price × basis point change)

= (118.58 – 114.39) / (2 × 116.46 × 0.005) = 3.60.

Baran

 

10、Which of the following statements about duration is FALSE?

A) Effective duration is the exact change in price due to a 100 basis point change in rates.

B) The numerator of the effective duration formula assumes that market rates increase and decrease by the same number of basis points.

C) Price volatility has a direct relationship with interest rate risk.

D) For a specific bond, the effective duration formula results in a value of 8.80%. For a 50 basis point change in yield, the approximate change in price of the bond would be 4.40%.

Baran

 

The correct answer is A

 

Effective duration is an approximation because the duration calculation ignores the curvature in the price/yield graph.