Question
The following table lists the detailed information of several corporate bonds. Bond Ratings YTM Bond A 15 years; 6% annual coupon -- 4% Bond B
The following table lists the detailed information of several corporate bonds.
Bond Ratings | YTM | ||
Bond A | 15 years; 6% annual coupon | -- | 4% |
Bond B | 20 years; 7% annual coupon | -- | 10% |
Bond C | 10 years; 5% annual coupon | AA-rated | -- |
Bond D | 10 years; 5% annual coupon | B-rated | -- |
Bond E | 30 years; 4% annual coupon | -- | -- |
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(a) What is the effective duration of Bond A for a 100bp change in yield?
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(b) If you expect the interest rate to drop by 60bp, what is the percentage change in the price of Bond A as estimated by effective duration?
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(c) Continued with part (b). Will the percentage change in the price of Bond A larger or smaller than that estimated in part (b) if convexity adjustment is made? Briefly explain.
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(d) If the interest rate rises, will the actual price of Bond B be higher or lower than the estimated price based on duration approximation?
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(e) Assume Bond C and Bond D are identical except their bond ratings. Without any calculation, determine whether you prefer to buy Bond C or Bond D now if you expect the interest rate to go down in the coming period. Explain briefly.
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(f) Without any calculation, determine which of the above bonds has the highest duration. Explain briefly.
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