1. Explain the concept of bond duration and discuss how it is used by the practicing financial institution managers to measure interest rate risk.

1. Consider a bond with $1,000 par value, 6% coupon with three years to maturity. Assuming that all market interest rates are 7%, provide answers to the following:

• What is the duration of the bond?
• Compute expected percentage price change by using duration approximation.
• Calculate the actual percentage price change by using discounted cash flows.

2. Consider a bond that promises the following cash flows. The required discount rate is 12%.

Table 1