Tina Shelby, the portfolio manager at BKM, predicts that there would be a general rise in interest rates from the current average of 8% per annum to 9% per annum. It is given that the duration of the total liabilities portfolio is 2.52.

Requirements:

(i) Considering the durations of total asset and total liabilities portfolio, what impact will this increase in interest rate have on the equity value of BKM? Show the detailed calculations. [3 marks]

(ii) After the increase in interest rate what happens to the risk profile of BKM Bank? [2 marks]

Consider the following simplified balance sheet of BKM Bank: Amount (in million dollars) Duration (in years) 35 20 4.65 3.20 5.75 Particulars Assets Loans Unsecured notes Treasury bonds Total assets Liabilities Short-term commitments Long-term debt issues Total liabilities Equity 25 80 30 35 65 15 Consider the following simplified balance sheet of BKM Bank: Amount (in million dollars) Duration (in years) 35 20 4.65 3.20 5.75 Particulars Assets Loans Unsecured notes Treasury bonds Total assets Liabilities Short-term commitments Long-term debt issues Total liabilities Equity 25 80 30 35 65 15