The Francesca Finance Corporation has issued a bond with the following characteristics:

Maturity—25 years Coupon—9%

Yield to maturity—9%

Callable—after 3 years @ 109 Duration to maturity—8.2 years Duration to first call—2.1 years

a. Discuss the concept of call-adjusted duration and indicate the approximate value (range) for it at the present time.

b. Assuming interest rates increase substantially (i.e., they increase to 13%), discuss what will happen to the calladjusted duration and the reason for the change.

c. Assuming interest rates decline substantially (i.e., they decline to 4%), discuss what will happen to the bond’s call-adjusted duration and the reason for the change.

d. Discuss the concept of negative convexity as it relates to this bond.