Question 1

Consider a security with a face value of $100 000, which is to be repaid at maturity. The security pays an annual coupon of 8 per cent and has a maturity of three years. The current discount rate is 10 per cent. What is the security's duration (round to two decimals) ?

Accepted Answer

A)   2.78 years
B)   3 years
C)   0.36 years
D)   1.94 yearsE) A) and B)
F) A) and C)

Question 2

How can a negative duration gap of 0.21 years be interpreted?

Accepted Answer

A)   The FI is exposed to decreasing interest rates because it has a negative duration gap of 0.21 years.
B)   The FI is exposed to increasing interest rates because it has a negative duration gap of 0.21 years.
C)   The FI is not exposed to interest rate changes since it is running a matched book.
D)   The FI's exposure will depend on its maturity gap.E) B) and C)
F) None of the above

Question 3

The statement that a portfolio is immunised using duration matching:

Accepted Answer

A)   means that the FI is entirely hedged against interest rate risks.
B)   is misleading as duration matching is a dynamic process and only hedges the FI against instantaneous interest rate changes.
C)   is misleading as duration matching is a dynamic process and only hedges the FI against interest rate changes that occur within a month.
D)   None of the listed options are correct.E) A) and C)
F) B) and D)

Question 4

Using the leverage adjusted duration gap, it is possible to measure the effect of changing interest rates on an FI's net worth.

Accepted Answer

A) True 
 B)False

Question 5

Duration is a direct measure of the interest rate sensitivity of an asset or liability, which means that:

Accepted Answer

A)   the smaller the duration, the more sensitive the price of that asset or liability.
B)   the larger the duration, the less sensitive the price of that asset or liability.
C)   the larger the duration, the more sensitive the price of that asset or liability.
D)   None of the listed options are correct.E) A) and C)
F) A) and B)

Question 6

Proof the following three propositions using a simple numerical example for each of the cases.
a. The duration of an asset or liability with intervening cash flows between issue and maturity is smaller than its maturity.
b. The duration of an asset or liability without any intervening cash flows between issue and maturity equals its maturity.
c. Despite the fact that perpetuities such as consol bonds have no maturity, it is possible to calculate their duration.

Accepted Answer

The answer of Proof the following three propositions using a...

Question 7

Which of the following statements most appropriately responds to the critique that duration matching is costly and time consuming?

Accepted Answer

A)   The critique is valid, however, the speed has been eased and transaction costs of balance sheet restructuring have been lowered due to growth of purchased funds, asset securitisation and loan sales markets.
B)   The critique is valid and FIs should spend funds in order to develop more efficient interest rate risk management tools.
C)   The critique is valid, particularly because it is not possible for managers to get the same results of direct duration matching by taking positions in derivatives markets.
D)   None of the listed options are correct.E) B) and C)
F) B) and D)

Question 8

Duration is a less accurate predictor for the change in an FI's net worth in case of large interest rate shocks because it assumes a:

Accepted Answer

A)   linear relationship between the change in an asset or liability's price and the change in the interest rate, while the true relationship is convex.
B)   linear relationship between the change in an asset or liability's price and the change in the interest rate, while the true relationship is concave.
C)   convex relationship between the change in an asset or liability's price and the change in the interest rate, while the true relationship is linear.
D)   concave relationship between the change in an asset or liability's price and the change in the interest rate, while the true relationship is linear.E) None of the above
F) A) and B)

Question 9

Duration measures changes in an FI's net worth inaccurately if interest rate changes are large.

Accepted Answer

A) True 
 B)False

Question 10

Duration matching is a desirable interest rate risk management tool as it captures changes in interest rates over long periods of time.

Accepted Answer

A) True 
 B)False

Question 11

Consider an asset with a current market value of $250 000 and a duration of 3.3 years. Assume the asset is partially funded through zero-coupon bonds which currently sells for $225 000 and has a maturity of 4 years. The current discount rate is 15 per cent. Which of the following statements is true?

Accepted Answer

A)   The FI is benefiting from increasing interest rates as it has a negative duration gap of 0.3 years.
B)   The FI is exposed to increasing interest rates as it has a negative duration gap of 0.3 years.
C)   The FI is exposed to increasing interest rates as it has a positive duration gap of 0.3 years.
D)   The FI is exposed to decreasing interest rates as it has a positive duration gap of 0.3 years.E) A) and D)
F) B) and C)

Question 12

As interest rates increase the price of an asset or liability:

Accepted Answer

A)   remains constant.
B)   decreases.
C)   increases.
D)   increases and it increases at a faster rate.E) A) and B)
F) None of the above

Question 13

Which of the following statements is true?

Accepted Answer

A)   Convexity is desirable because the larger the convexity the greater the interest rate protection against interest rate decreases and the greater the potential gains following increasing interest rates.
B)   Convexity is desirable because the larger the convexity the greater the interest rate protection against interest rate rises and the greater the potential gains following decreasing interest rates.
C)   Convexity is undesirable because the larger the convexity the lower the interest rate protection against interest rate rises and the smaller the potential gains following decreasing interest rates.
D)   Convexity is undesirable because the larger the convexity the lower the interest rate protection against interest rate decreases and the smaller the potential gains following increasing interest rates.E) None of the above
F) All of the above

Question 14

The bank has a negative maturity gap. Is the bank exposed to interest rate increases or decreases and why?

Accepted Answer

A)   Interest rate increases because the value of its assets will rise more than its liabilities.
B)   Interest rate increases because the value of its assets will fall more than its liabilities.
C)   Interest rate decreases because the value of its assets will rise less than its liabilities.
D)   Interest rate decreases because the value of its assets will fall more than its liabilities.E) C) and D)
F) A) and C)

Question 15

The special feature of consol bonds is that:

Accepted Answer

A)   their duration equals their maturity.
B)   their maturity is infinite, while their duration is finite.
C)   their maturity is finite, while their duration is infinite.
D)   both, their maturity and their duration, are infinite.E) C) and D)
F) A) and C)

Question 16

Assume that the required yield to maturity on a consol bond increases from 6 per cent to 12 per cent. What is the impact on the consol bond's duration?

Accepted Answer

A)   As there are no intervening cash flows between issue and maturity, the duration will always equal the bond's maturity.
B)   As interest rates rise, the duration of consol bonds falls.
C)   As interest rates rise, the duration of consol bonds rises.
D)   There will be no impact on the bond's duration.E) All of the above
F) A) and D)

Question 17

The duration of a zero-coupon bond is always smaller than its maturity.

Accepted Answer

A) True 
 B)False

Question 18

One method of changing the positive leverage adjusted duration gap for the purpose of immunising the net worth of a typical depository institution is to increase the duration of the assets and to decrease the duration of the liabilities.

Accepted Answer

A) True 
 B)False

Question 19

The effect of interest rate changes on the market value of an FI's net worth breaks down into three effects, these being the leverage adjusted duration gap, the:

Accepted Answer

A)   size of the FI and the reputation of the FI.
B)   size of the FI and the size of the interest rate shock.
C)   reputation of the FI and the size of the interest rate shock.
D)   size of the FI and the direction of the interest rate changes.E) C) and D)
F) All of the above

Question 20

As interest rates increase (decrease) the value of an asset or a liability decreases (increases).

Accepted Answer

A) True 
 B)False

Exam 6: Interest Rate Risk Measurement: the Duration Model

Correct Answer
verified

As interest rates increase the price of an asset or liability:

Correct Answer
verified

The statement that a portfolio is immunised using duration matching:

Correct Answer
verified

Duration matching is a desirable interest rate risk management tool as it captures changes in interest rates over long periods of time.

Correct Answer
verified

The special feature of consol bonds is that:

Correct Answer
verified

As interest rates increase (decrease) the value of an asset or a liability decreases (increases).

Correct Answer
verified

The bank has a negative maturity gap. Is the bank exposed to interest rate increases or decreases and why?

Correct Answer
verified

One method of changing the positive leverage adjusted duration gap for the purpose of immunising the net worth of a typical depository institution is to increase the duration of the assets and to decrease the duration of the liabilities.

Correct Answer
verified

Duration measures changes in an FI's net worth inaccurately if interest rate changes are large.

Correct Answer
verified

How can a negative duration gap of 0.21 years be interpreted?

Correct Answer
verified

The duration of a zero-coupon bond is always smaller than its maturity.

Correct Answer
verified

Duration is a less accurate predictor for the change in an FI's net worth in case of large interest rate shocks because it assumes a:

Correct Answer
verified

Which of the following statements most appropriately responds to the critique that duration matching is costly and time consuming?

Correct Answer
verified

Which of the following statements is true?

Correct Answer
verified

Duration is a direct measure of the interest rate sensitivity of an asset or liability, which means that:

Correct Answer
verified

Consider an asset with a current market value of $250 000 and a duration of 3.3 years. Assume the asset is partially funded through zero-coupon bonds which currently sells for $225 000 and has a maturity of 4 years. The current discount rate is 15 per cent. Which of the following statements is true?

Correct Answer
verified

The effect of interest rate changes on the market value of an FI's net worth breaks down into three effects, these being the leverage adjusted duration gap, the:

Correct Answer
verified

Assume that the required yield to maturity on a consol bond increases from 6 per cent to 12 per cent. What is the impact on the consol bond's duration?

Correct Answer
verified

Using the leverage adjusted duration gap, it is possible to measure the effect of changing interest rates on an FI's net worth.

Correct Answer
verified

Consider a security with a face value of $100 000, which is to be repaid at maturity. The security pays an annual coupon of 8 per cent and has a maturity of three years. The current discount rate is 10 per cent. What is the security's duration (round to two decimals) ?

Correct Answer
verified

Exam 6: Interest Rate Risk Measurement: the Duration Model

Correct AnswerverifiedShow Answer

As interest rates increase the price of an asset or liability:

Correct AnswerverifiedShow Answer

The statement that a portfolio is immunised using duration matching:

Correct AnswerverifiedShow Answer

Duration matching is a desirable interest rate risk management tool as it captures changes in interest rates over long periods of time.

Correct AnswerverifiedShow Answer

The special feature of consol bonds is that:

Correct AnswerverifiedShow Answer

As interest rates increase (decrease) the value of an asset or a liability decreases (increases).

Correct AnswerverifiedShow Answer

The bank has a negative maturity gap. Is the bank exposed to interest rate increases or decreases and why?

Correct AnswerverifiedShow Answer

One method of changing the positive leverage adjusted duration gap for the purpose of immunising the net worth of a typical depository institution is to increase the duration of the assets and to decrease the duration of the liabilities.

Correct AnswerverifiedShow Answer

Duration measures changes in an FI's net worth inaccurately if interest rate changes are large.

Correct AnswerverifiedShow Answer

How can a negative duration gap of 0.21 years be interpreted?

Correct AnswerverifiedShow Answer

The duration of a zero-coupon bond is always smaller than its maturity.

Correct AnswerverifiedShow Answer

Duration is a less accurate predictor for the change in an FI's net worth in case of large interest rate shocks because it assumes a:

Correct AnswerverifiedShow Answer

Which of the following statements most appropriately responds to the critique that duration matching is costly and time consuming?

Correct AnswerverifiedShow Answer

Which of the following statements is true?

Correct AnswerverifiedShow Answer

Duration is a direct measure of the interest rate sensitivity of an asset or liability, which means that:

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

The effect of interest rate changes on the market value of an FI's net worth breaks down into three effects, these being the leverage adjusted duration gap, the:

Correct AnswerverifiedShow Answer

Assume that the required yield to maturity on a consol bond increases from 6 per cent to 12 per cent. What is the impact on the consol bond's duration?

Correct AnswerverifiedShow Answer

Using the leverage adjusted duration gap, it is possible to measure the effect of changing interest rates on an FI's net worth.

Correct AnswerverifiedShow Answer

Consider a security with a face value of $100 000, which is to be repaid at maturity. The security pays an annual coupon of 8 per cent and has a maturity of three years. The current discount rate is 10 per cent. What is the security's duration (round to two decimals) ?

Correct AnswerverifiedShow Answer

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