Part2: Bond Pricing and Immunization.

1. You will be paying $10,000 a year in tuition expenses at the end of the next 2 years.Bonds currently yield 8%.

a (0.25). What is the present value and duration of your obligation? Hint: It is calculated

in Chapter 6 Hw_Part 2.

b (0.25). What maturity and face value of zero-coupon bond would immunize your

obligation? Hint: you answer is based on part a.

c (0.25). You buy a zero-coupon bond with value and duration equal to your obligation.

Now suppose that rates immediately increase to 9%. What happens to your net position,

that is, the difference between the present value of the zero-coupon bond and that of your

tuition obligation? Hint: interest rate change affects both asset and obligation.

d (0.25). What if rates fall to 7%? Is your portfolio immunized from interest rate risk?