1) You are facing the choice between 2 bonds of equivalent risk:

i) a 9%, taxable corporate

ii) a 6.5% municipal from the local water/sewer district that was initially a $12 million issue.

a) If you are a trust customer of the bank, and your tax rate is 30%, which bond should your bank trust officer be choosing for your portfolio? Why?

b) If you are an officer in the Treasury area of the banks CFO office, the bank has a 0.75% cost of funds, and a 25% tax rate, which bond should be chosen for the banks portfolio? Why?

2) You are working at a bank, and after analyzing the $295 million portfolio of debt securities, you have determined a portfolio duration of 3.65, and an average Yield to Maturity of 5.65%. If you believe interest rates will be increasing by 0.75%, what is your expected change in portfolio value? If on the other hand, the prevailing wisdom is that rates will drop by 0.25%, what is the expect change in portfolio value? VERY briefly, what is wrong with this type of analysis? Additionally, what would be wrong with regulators coming in and asking you to repeat this analysis for an increase in interest rates of 2.5%?

3) You have a 9-month investment horizon, and are looking at US Treasury securities as an investment. The yield curve of interest rates vs. various UST maturities is currently upward sloping. Describe the transactions, benefits, and possible detractions, of investing in a 5-year, 4.5% UST note vs. a 0.25% 9-month T-Bill.

4) You are looking at two 5-year total maturity portfolios and their contents:

A: Maturities < 1y: $225m, Maturities > 1y, but < 5y: $690m, Maturities=5y: $220m

B: Maturities < 1y: $405m, Maturities > 1y, but < 5y: $335m, Maturities=5y: $395m

a) Describe the strategy being implemented in each portfolio.

b) Describe which portfolio is better suited to activating on an interest rate view that rates will fall 1%. Why is the portfolio chosen better suited for this rate opinion? What would be the suggested transaction to benefit if this rate view actually comes to pass?