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CFA :Level 2 - 2016 > FI > Flashcards

FI Flashcards

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1
Q

Riding the Yield Curve

A

When the yield curve is upward sloping, investors can hold longer term maturity bond than their investment horizon to earn excess return

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2
Q

The Swap Rate Curve

A

Benchmark measure of interest rates. Represents fixed-rate leg in an interest rate swap

Swap Spread = Swap Rate - Treasury Bond Yield

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3
Q

Z- Spread

A

Spread when added to each spot rate on yield curvemakes the PV of a bond’s CF = the bond’s market price

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4
Q

TED Spread

A

Amount LIBOR exceeds overnight indexed swap rate (OIS)

Measure of credit risk and indication of health of banking system

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5
Q

Unbiased Expectations Theory

A

Forward rates are an unbiased predictor of future spot rates

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6
Q

Local Expectations Theory

A

Preserves the risk-neutrality assumption only for short holding periods

Over short time periods, every bond should earn the risk-free rate

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7
Q

Liquidity Preference Theory

A

Investors demand liquidity premium that is positively related to a bond’s maturity

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8
Q

Segmented Markets Theory

A

The shape of the yield curve is the result of supply and demand of funds in different market segments

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9
Q

Preferred Habitat Theory

A

Market participants will deviate from their preferred maturity habitat if compensated adequately

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10
Q

2 types of modern term structure models

A

Equilibrium Term Structure Models (CIR and Vasicek)

Arbitrage-free models (Ho-Lee) - Begins w/ observed market prices and the assumption that securities are correctly priced

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11
Q

Cox-Ingersoll-Ross Model

A

Assumes the economy has a natural long-run interest rate (b) that the short-term rate (r) converges to

dr = a(b-r)dt + σ √(rdz)

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12
Q

Vasicek Model

A

Assumes interest rate volatility level is independant of the level of shor-term interest rates

dr = a(b-r)dt + σdz

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13
Q

Ho-Lee Model

A

drt = Φdt + σdzt

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14
Q

Effective Duration

A

Measures the sensitivity of a bond’s price ot parallel shifts in the benchmark yield curve

ED = [(BV-Δy) - (BV+Δy)] / [2 * BV0 * Δy]

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15
Q

Key Rate Duration

A

Measures bond price sensitivity to a change in a specific spot rate, keeping everything else constant

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16
Q

OAS spreads

A

The constant spread added to each forward rate in a benchmark binomial interest rate tree such that the sum of the PVs of a credit risky bond’s CF = its market price

17
Q

Effective Duration Totalogies

A

ED (Callable/Puttable)

18
Q

One sided durations (when rates rise vs. when they fall) ________ interest rate sensitivity than regular EDs for bonds w/ embedded options

A

better capture

19
Q

When option is at/near the money callable (puttable) bonds will have _____ (____) one-sided ____ duration than one-sided ___ duration.

A

lower (higher) ; down ; up

20
Q

Straight and putable bonds exhibit ____ convexity throughout

A

positive

21
Q

Callable bonds exhibit ____ convexity when rates are _____, and ____ convexity when rates are ____

A

positive ; high ; negative ; lower

22
Q

Conversion Value

A

Market price of stock * conversion ratio

23
Q

Market Conversion Price

A

Market price of convertible bond / conversion ratio

24
Q

Market Conversion Premium per Share

A

Market conversion price - market price

25
Q

Present Value of expected loss

A

Difference btw value of credit-risk bond and identical risk-free bond

26
Q

Structural Model

A

Corporate credit risk is base don the stricture of the company’s balance sheet

Value of Stock = Max [Assets - Face Vale of Debt, 0]

Value of Debt = Min [Face Value of Debt, Assets]

27
Q

Reduced Form Model

A

Allows for flexibility and incorporation of real world conditions

Assumes >= 1 ZCB outstanding

rf rate, PD, and recovery rate vary w/ the state of the economy

28
Q

Credit Spread is the difference btwn the yield on a zero-coupon ______ and a zero-coupon ____

A

Credit risk bond; risk-free bond

29
Q

Unlike corporate debt, ABS….

A

… do not default; rather losses in ABS’s collateral pool are borne by different tranches of the ABS structure base on the distribution waterfall

30
Q

The pure expectations theory assumes risk ______, that is, investors are _____ by uncertainty and risk ______ do not exist.

A

Neutrality; Unaffected; Premiums

31
Q

In a structural model the holding the company’s equity is economically equivalent to owning _____ option on the company’s _______

A

European Call Option ; Assets

CFA :Level 2 - 2016 (8 decks)

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