CAIA - 35 - Structured Products I: Fixed Income Derivatives and Asset Backed Securities Flashcards

1
Q

There are 2 broad approaches to model the term structure of interest rates:

1.

2.

A

There are 2 broad approaches to model the term structure of interest rates:

  1. Equilibrium
  2. Arbitrage-free
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2
Q

___ models for modeling the term structure for interest rates assume a process for short-term interest rates and then use that process to look at the expected path of future interest rates.

A

Equilibrium models for modeling the term structure for interest rates assume a process for short-term interest rates and then use that process to look at the expected path of future interest rates.

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3
Q

___-___models for modeling future interest rates project future interest rates in such a way that they are consistent with the observed term structure.

A

Arbitrage-free models for modeling future interest rates project future interest rates in such a way that they are consistent with the observed term structure.

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4
Q

___ term structure model is a single-factor model that assumes that the short-term interest rate drifts toward a specific long-term mean.

A

Vasicek’s term structure model is a single-factor model that assumes that the short-term interest rate drifts toward a specific long-term mean.

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5
Q

Vasicek’s Model

A
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6
Q

Yield to Maturity in Vasicek

A
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7
Q

CIR Model (Equation)

A
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8
Q

A criticism of the Vasicek model is that it assumes the ___ of changes in the interest rates is constant as the ___ of interest rate changes.

A

A criticism of the Vasicek model is that it assumes the volatility of changes in the interest rates is constant as the level of interest rate changes.

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9
Q

Ho and Lee Model

A
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10
Q

Conditional Prepayment Rate (CPR)

A
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11
Q

Absolute Prepayment Speed (ABS)

A
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12
Q

Single Monthly Mortality (SMM)

A
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13
Q

The ___, ___and ___ model modified the Vasicek model so that the variance of the short-term rate is proportional to the rate itself.

A

The Cox, Ingersoll and Ross (CIR) model modified the Vasicek model so that the variance of the short-term rate is proportional to the rate itself.

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14
Q

___-___models of the term structure generate bonds that do not allow for arbitrage opportunities.

A

Arbitrage-free models of the term structure generate bonds that do not allow for arbitrage opportunities.

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15
Q

The ___ and ___model assumes that the short-term interest rate follows a normally distributed process, with a drift parameter selected so that the modeled interest rates fit the observed structure of interest rates.

A

The Ho and Lee model assumes that the short-term interest rate follows a normally distributed process, with a drift parameter selected so that the modeled interest rates fit the observed structure of interest rates.

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16
Q

The key disadvantage of the Ho and Lee model are that it assumes a very simple ___ process for bond prices and it can produce ___interest rates.

A

The key disadvantage of the Ho and Lee model are that it assumes a very simple binomial process for bond prices and it can produce negative interest rates.

17
Q

An ___ ___ ___is an interest rate derivative in which one party pays the other party when a specified reference rate exceeds a specific cap rate.

A

An interest rate cap is an interest rate derivative in which one party pays the other party when a specified reference rate exceeds a specific cap rate.

18
Q

A ___ is an interest rate cap that is guaranteed for one specific date.

A

A caplet is an interest rate cap that is guaranteed for one specific date.

19
Q

A ___ is a series of caplets and its price equals the sum of the caplet prices.

A

A cap is a series of caplets and its price equals the sum of the caplet prices.

20
Q

An ___ ___ ___ is an interest rate derivative in which one party pays the other when a specified reference rate is below a floor rate.

A

An interest rate floor is an interest rate derivative in which one party pays the other when a specified reference rate is below a floor rate.

21
Q

A ___ is an interest rate floor guaranteed for one specific date.

A

A floorlet is an interest rate floor guaranteed for one specific date.

22
Q

A ___ is a series of floorlets and its price equals the sum of the floorlet prices.

A

A floor is a series of floorlets and its price equals the sum of the floorlet prices.

23
Q

Issuers of floating rate debt can buy interest rate ___ to hedge their exposure.

A

Issuers of floating rate debt can buy interest rate caps to hedge their exposure.

24
Q

Lenders of floating-rate debt can buy interest rate ___ to hedge their exposure.

A

Lenders of floating-rate debt can buy interest rate floors to hedge their exposure.

25
Since caps and floors are not typically exchange-traded instruments, buyers of these derivatives are exposed to ___ risk.
Since caps and floors are not typically exchange-traded instruments, buyers of these derivatives are exposed to **counterparty** risk.
26
\_\_\_ \_\_\_are bonds that can be redeemed by the bond issuer before maturity by making a set payment to the investor in a designated period.
**Callable bonds** are bonds that can be redeemed by the bond issuer before maturity by making a set payment to the investor in a designated period.
27
Bond pricing models should account not only for interest rate risk but also for ___ risk.
Bond pricing models should account not only for interest rate risk but also for **credit** risk.
28
Ignoring counterparty risk, payers in vanilla swaps benefit from ___ rates and suffer when rates \_\_\_.
Ignoring counterparty risk, payers in vanilla swaps benefit from **increased** rates and suffer when rates **decline**.
29
Ignoring counterparty risk, receivers in vanilla swaps benefit from ___ rates and suffer when rates \_\_\_.
Ignoring counterparty risk, receivers in vanilla swaps benefit from **declining** rates and suffer when rates **increase**.
30
Pension funds can use ___ \_\_\_ ___ or \_\_\_-\_\_\_ ___ to reduce their interest rate risk.
Pension funds can use **interest rates swaps** or **long**-**term bonds** to reduce their interest rate risk.
31
The ___ \_\_\_ ___ is a graphical representation of the relationship between swap rates and the maturities of their contracts.
The **swap rate curve** is a graphical representation of the relationship between swap rates and the maturities of their contracts.
32
Prepayment risk is fairly ___ for auto loan backed securities.
Prepayment risk is fairly **low** for auto loan backed securities.
33
Prepayment for most ABSs is measured by the ___ \_\_\_ ___ .
Prepayment for most ABSs is measured by the **conditional prepayment rate (CPR)**.
34
Auto Loan Backed Securities prepayment risk is typically measured using the ___ \_\_\_ \_\_\_.
Auto Loan Backed Securities prepayment risk is typically measured using the **absolute prepayment speed (ABS).**
35
\_\_\_-\_\_\_ loans mean that lenders can collect only the loan collateral.
**Non**-**recourse** loans mean that lenders can collect only the loan collateral.
36
Credit card and auto loans are (recourse/non-recourse) loans
Credit card and auto loans are **recourse** loans
37
A ___ \_\_\_ ___ is an ABS that is secured by and receives cash flows from a pool of credit card receivables.
A **credit card receivable** is an ABS that is secured by and receives cash flows from a pool of credit card receivables.