Answered step by step
Verified Expert Solution
Link Copied!

Question

1 Approved Answer

In lecture we defined quasi- modified duration as the extension of the concept of duration to the term structure framework. It is possible to extend

image text in transcribed

In lecture we defined quasi- modified duration as the extension of the concept of duration to the term structure framework. It is possible to extend the process of immunization to the term structure framework. A portfolio of bonds designed to fund a stream of obligations can be immunized against a parallel shift in the spot rate curve by matching both the present values and the quasi- modified durations of the bonds and the obligations. Consider the following stream of future obligations, in dollars, corresponding to college tuition payments for 2 children, Jay and Rio, as shown in the table below below. All tuition payments are assumed to come at the end of each year. Year 1 2 3 4 5 50,000 0 JAY RIO 51,000 51,000 52,000 52.000 53,000 53,000 54,000 You are given the spot rate curve is as follows: YEAR 1 SPOT RATE % 6.25 6.50 6.75 2 3 4 7.00 5 7.25 . Find a portfolio. consisting of the two bonds below, that has the same present value as the obligation stream (including tuition payments for both Jay and Rio) and is immunized against an additive shift in the spot rate curve: Bond 1 is a 5-year 6% annual coupon bond with a price of $95.15 Bond 2 is a 4-year 10% annual coupon bond with a price of $110.37 Both bonds have a face value of $100. How many units of Bond 2 should be held in the immunized portfolio? Please round your numerical answer to the nearest integer number of units. In lecture we defined quasi- modified duration as the extension of the concept of duration to the term structure framework. It is possible to extend the process of immunization to the term structure framework. A portfolio of bonds designed to fund a stream of obligations can be immunized against a parallel shift in the spot rate curve by matching both the present values and the quasi- modified durations of the bonds and the obligations. Consider the following stream of future obligations, in dollars, corresponding to college tuition payments for 2 children, Jay and Rio, as shown in the table below below. All tuition payments are assumed to come at the end of each year. Year 1 2 3 4 5 50,000 0 JAY RIO 51,000 51,000 52,000 52.000 53,000 53,000 54,000 You are given the spot rate curve is as follows: YEAR 1 SPOT RATE % 6.25 6.50 6.75 2 3 4 7.00 5 7.25 . Find a portfolio. consisting of the two bonds below, that has the same present value as the obligation stream (including tuition payments for both Jay and Rio) and is immunized against an additive shift in the spot rate curve: Bond 1 is a 5-year 6% annual coupon bond with a price of $95.15 Bond 2 is a 4-year 10% annual coupon bond with a price of $110.37 Both bonds have a face value of $100. How many units of Bond 2 should be held in the immunized portfolio? Please round your numerical answer to the nearest integer number of units

Step by Step Solution

There are 3 Steps involved in it

Step: 1

blur-text-image

Get Instant Access to Expert-Tailored Solutions

See step-by-step solutions with expert insights and AI powered tools for academic success

Step: 2

blur-text-image

Step: 3

blur-text-image

Ace Your Homework with AI

Get the answers you need in no time with our AI-driven, step-by-step assistance

Get Started

Recommended Textbook for

Finance And Financial Markets

Authors: Keith Pilbeam

2nd Edition

1403948356, 978-1403948359

More Books

Students also viewed these Finance questions

Question

What is the major competition for your organization?

Answered: 1 week ago

Question

How accurate is this existing information?

Answered: 1 week ago