Required: 

 

a) What is the interest rate risk exposure of this bank? Explain why. (Hint: using duration gap model)

 

b) If this bank uses forward contract to hedge this interest rate risk, should the bank take a short or long position on this forward contract? Explain why.

 

c) If this bank uses swap contract to hedge this interest rate risk, should the bank be a swap buyer or a swap seller? Explain why.

 

d) Assume that the portfolio of T-bonds of this bank is held as part of the trading portfolio and today's yield on these bonds is 7 percent per year. Suppose we define bad yield changes such that there is 1 chance in 40 (or a 2.5 percent chance) that the next day's yield increase (or shock) will exceed this given adverse move. Assuming normality and suppose that during the last year the standard deviation of relative changes in daily yields on these bonds was 15 basis points. What are the DEAR and the 10-day VAR for these bonds? 

The following balance sheet information is available (amounts in thousands of dollars and duration in years) for a financial institution: Amount Assets: Cash T-bonds Loans Liabilities and Equity: Deposits Federal funds Equity 60 170 2,730 2,090 240 630 Duration 4.00 7.00 1.00 0.01