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1
Q

True or False?

A corporate bond of higher seniority should have a higher yield rate compared to a bond of lower seniority.

A

False

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2
Q

True or False?

The lower the rating of a corporate bond, the lower the yield rate.

A

False

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3
Q

True or False?

A corporate bond with a lower bid-ask spread should have a lower yield rate compared to a bond with a higher bid-ask spread.

A

True

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4
Q

True or False?

A corporate bond with a call provision should have a lower yield rate compared to a bond with a put provision.

A

False

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5
Q

True or False?

To achieve immunization, the convexity of the assets must equal the convexity of the liabilites.

A

False

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6
Q

True or False?

The full immunization technique is designed to work for any change in the interest rate.

A

True

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7
Q

True or False?

The theory of immunization was developed to protect against adverse effects created by changes in interest rates.

A

True

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8
Q

What are the three assumptions that full and redington immunization strategies are based on?

A
  1. Interest rates for all maturities are the same (flat yield curve)
  2. When interest rates change, they change by the same amount for all maturities. This produces a parallel shift in the yield curve, thus maintaining a flat yield curve.
  3. Cash flows do not change when interest rates change.
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9
Q

The ___ theory states that interest rates differ by terms because lenders need enough/extra incentive to take risk in investing longer term investments.

A

Liquidity Preference / Opportunity Cost

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10
Q

The ___ theory asserts that interest rates differ by terms because the pools of borrowers and lenders are different.

A

Market Segmentation

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11
Q

The ___ is the compensation for the risk of lent money not fully repaid.

A

Default risk premium

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12
Q

The ___ theory asserts that interest rates differ by terms because interest rates for longer term investments provide future expectations for interest rates on shorter term investments.

A

Expectations

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13
Q

The ___ is the compensation for the extra cost of converting investments to cash.

A

Liquidity premium

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14
Q

Name the 4 determinants of interest rates for corporate bonds.

A
  • Liquidity
  • Rating
  • Seniority
  • Call/put provisions
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15
Q

The ___ theory states that interest rates differ by terms because if given enough compensation, lenders and borrowers are willing to move outside of their preferred term length.

A

Preferred Habitat

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16
Q

The ___ is the compensation for accepting the risk of longer-term investments.

A

Maturity risk premium

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17
Q

The ___ is the compensation for the loss of purchasing power of money.

A

Inflation premium

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18
Q

The ___ is the tradeoff for current vs. future real consumption.

A

Real risk-free rate

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19
Q

Name the 3 determinants of interest rates for lending products.

A
  • Creditworthiness of borrower
  • Type of loan
  • Quality of security/guarantee
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20
Q

Name the 3 determinants of interest rates for government bonds.

A
  • Creditworthiness of issuer
  • Tax treatment of interest payments
  • Denomination of currency
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21
Q

Name the 4 determinants of interest rates for savings products.

A
  • Overhead costs
  • Business environment
  • Business strategy
  • Perceived creditworthiness / credit rating
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22
Q

True or False?

All else being equal, the rate on a secured loan should be greater than the rate on an unsecured loan.

A

False

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23
Q

True or False?

All else being equal, the rate on a loan with guaranteed repayment should be greater than the rate on a loan without guaranteed repayment.

24
Q

True or False?

All else being equal, the rate on a loan for a borrower with high credit score should be lower compared to another borrower with low credit score.

25
Q

The Federal Open Market Committee (FOMC) has decided to decrease the target level of the federal funds rate. Determine the effect on the reserving and lending activity of U.S. banks.

A. It becomes more expensive for banks to run a shortfall in their reserve accounts; thus, banks will be motivated to write fewer loans, and the interest rates charged on those loans will decrease.

B. It becomes more expensive for banks to run a shortfall in their reserve accounts; thus, banks will be motivated to write fewer loans, and the interest rates charged on these loans will increase.

C. It becomes more expensive for banks to run a shortfall in their reserve accounts; thus, banks will be motivated to write more loans, and the interest rates charged on these loans will decrease.

D. It becomes less expensive for banks to run a shortfall in their reserve accounts; thus, banks will be motivated to write more loans, and the interest rates charged on these loans will increase.

E. It becomes less expensive for banks to run a shortfall in their reserve accounts; thus, banks will be motivated to write more loans, and the interest rates charged on these loans will decrease.

26
Q

Which of the following types of loans is backed by a third party, where the third party covers the lender’s losses if the borrower defaults?

I. Secured Loan

II. Guaranteed Loan

III. Unsecured Loan

A

Guaranteed Loan

27
Q

Consider the formula for the dollar-weighted rate of return. Determine which of the following conditions produces i closest to the annual effective yield rate.

A. When each cash flow is small relative to A

B. When each cash flow is large relative to A

C. When each cash flow is large relative to I (the numerator)

D. When the cash flows all have the same sign

E. When the timing of the cash flows is uniform throughout the year

28
Q

The rate at which banks with insufficient reserve funds borrow from another bank having excess reserve funds is the…

A

federal funds rate

29
Q

True or False?

Maturity risk premium compensates investors for taking the risk of longer-term investments.

30
Q

True or False?

All else being equal, an increase in the number of potential lenders increases the lending interest rate.

31
Q

True or False?

The liquidity preference theory states that borrowers need to pay a higher interest rate to persuade lenders to lend for longer terms.

32
Q

True or False?

If the cost for inflation protection and the compensation for unexpected inflation are high, the difference between the nominal interest rate and the real interest rate overestimates the inflation rate.

33
Q

True or False?

All else being equal, a decrease in the number of potential borrowers decreases the lending interest rate.

34
Q

True or False?

If a portfolio satisifes the conditions for full immunization, it satisfies the conditions for Redington immunization as well.

35
Q

True or False?

If a portfolio satisfies the conditions for Redington immunization, it satisfies the conditions for full immunization as well.

36
Q

True or False?

The Redington immunization strategy works well for any one-time shift in interest rates.

37
Q

True or False?

The full immunization strategy works well for any one-time shift in interest rate.

38
Q

Which of the following types of interest premiums best helps explain why yield curves are typically upward-sloping?

A. Maturity risk premium

B. Inflation premium

C. Default risk premium

D. Liquidity premium

E. Delayed consumption premium

39
Q

True or False?

If long-term interest rates are lower than short-term interest rates, the need for immunization is reduced.

40
Q

True or False?

Either Macaulay duration or Modified duration can be used to develop an immunization strategy.

41
Q

True or False?

Both processes of matching the present values of the cash flows or the flows themselves will produce exact matching.

42
Q

Which of the following statements are false regarding banks and bonds?

A. In general, commercial banks would prefer to loan money from other commercial banks rather than the central bank.

B. Increasing the federal funds rate decreases the amount of money banks are willing to loan out.

C. Customers receive the savings rate on their deposits into banks

D. A callable bond bought at a discount would be priced lower than an otherwise equivalent bond bought at a discount without a call

E. A putable bond bought at a discount would be priced higher than an otherwise equivalent bond bought at a discount without a put.

43
Q

In terms of components of interest rates, what is the difference between a real interest rate and a nominal interest rate?

A

A real interest rate includes inflation protection while a nominal interest rate does not.

44
Q

True or False?

All else being equal, a corporate bond with a higher bid-ask spread has a higher yield rate compared to a bond with a lower bid-ask spread.

A

True

A higher bid-ask spread indicates a lower level of liquidity. A bond with a lower liquidity would have a higher liquidity premium. Thus, bond holders need to be compensated with a higher yield rate.

45
Q

True or False?

All else being equal, the lower the rating of a corporate bond, the lower the yield rate.

A

False

A bond with a lower rating means that the bond issuer has a lower level of creditworthiness. The yield rate should be higher because the bond holders need to be compensated with extra risk.

46
Q

True or False?

A call provision permits corporate bond holders to sell the bond back to the bond issuer before maturity, thus a bond with such provision has a lower yield rate.

A

False

A call provision allows bond issuers to redeem the bond earlier than maturity. A put provision allows bond holders to sell the bond back to the bond issuer before maturity.

47
Q

True or False?

All else being equal, a corporate bond of higher seniority has a lower yield rate.

A

True

A bond with a higher seniority would have a higher price, thus, a lower yield rate.

48
Q

True or False?

An advantage of the Redington immunization technique over the cash-flow matching technique is that the portfolio manager has more investment choices available.

A

True

Cash-flow matching limits the number of investment choices available to the portfolio manager to a subset of the choices available for immunization.

49
Q

True or False?

A cash-flow matched portfolio requires less rebalancing than a Redington immunized porfolio, but more rebalancing than a fully immunized portfolio.

A

False

Cash-flow matched porfolio does not require any rebalancing.

50
Q

For loans with inflation protection, the interest rate charged is:

A

r - c + ia

51
Q

For loans without inflation protection, the interest rate charged is:

A

r + ie + iu

52
Q

In an interest rate swap, the counterparty who agrees to pay the variable rate and receive the fixed rate is called the ___.

53
Q

In an interest rate swap, the settlement period is…

A

the time between settlement dates

54
Q

True or False?

Treasury bills have a term of one year or less

55
Q

True or False?

Revenue bonds are bonds issued by governmental institutions that are repaid using funds collected, such as tax revenues.

56
Q

True or False?

Bonds issued by state and local governments would have a lower-than-usual yield rate if the interest payments are taxed at a preferred rate.

57
Q

True or False?

Real return bonds are bonds where interest payments and maturity values are adjusted for inflation.

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