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1. A corporate bond has 2 years to maturity, a coupon rate of 8%, a face value of $1,000 and pays coupons semiannually. The market

1. A corporate bond has 2 years to maturity, a coupon rate of 8%, a face value of $1,000 and pays coupons semiannually. The market interest rate for similar bonds is 9.5%.

a. What is the bond's duration in years?

b. If yields fall by 0.8 percentage points, what is the new expected bond price based on its duration (in $)?

c. What is the actual bond price after the change in yields (in $)?

d. What is the difference between the two new bond prices (in absolute $)?

2. A corporate pension plan has to make the following payments over the next few years:

Year 1 2 3 4
Amount ($ million) 19 23 29 37

The appropriate interest rate is 8%.

a. What is the duration of the liability?

b. What is the duration of a perpetuity if the yield is 8%?

c. The fund wants to immunize its interest rate risk by investing in a perpetuity and a 1-year zero coupon bond. To do so, how much should it invest in the perpetuity (in $ million)?

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