Edgar Wall is considering the purchase of one of the two bonds described in the following table. Wall realizes his decision will depend primarily on effective duration, and he believes that interest rates will decline by 50 basis points at all maturities over the next six months.

a. Calculate the percentage price change forecasted by effective duration for both the EBR and CRR bonds if interest rates decline by 50 basis points over the next six

months. Show your work.

b. Calculate the six-month horizon return (in percent) for each bond, if the actual EBR bond price equals 105.55 and the actual CRR bond price equals 104.15 at the end of

six months. Assume you purchased the bonds to settle on June 1, 2011. Show your work.

Bond Description:

Characteristic EBR CRR

Market price 101.75 101.75

Maturity Date June 1, 2021 June 1, 2021

Call Date Noncallable June 1, 2016

Annual coupon 6.25% 7.35%

Interest payment Semiannual Semiannual

Effective duration 7.35 5.40

Yield to Maturity 6.02% 7.10%

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