Baran

 

4、Positive convexity in bond prices implies all but which of the following statements?

A) Bond prices approach a ceiling as interest rates fall.  

B) As yields increase, changes in yield have a smaller effect on bond prices. 

C) As yields decrease, changes in yield have a larger effect on bond prices.  

D) The price volatility of non-callable bonds is inversely related to the level of market yields.

Baran

 

The correct answer is A

 

The convexity of bond prices means that bond prices as a function of interest rates approach a floor as interest rates rise.

Baran

 

5、Convexity is important because:

A) the slope of the price yield curve is not linear.  

B) it measures the volatility of non-callable bonds. 

C) it can be used to indicate the optimal hedge ratio.  

D) the slope of the callable bond price/yield curve is backward bending at high interest rates.

Baran

 

The correct answer is A

 

Modified duration is a good approximation of price changes for an option-free bond only for relatively small changes in interest rates. As rate changes grow larger, the curvature of the bond price/yield relationship becomes more prevalent, meaning that a linear estimate of price changes will contain errors. The modified duration estimate is a linear estimate, as it assumes that the change is the same for each basis point change in required yield. The error in the estimate is due to the curvature of the actual price path. This is the degree of convexity. If we can generate a measure of this convexity, we can use this to improve our estimate of bond price changes.

Baran

 

6、Consider two bonds, A and B. Both bonds are presently selling at par. Each pays interest of $120 annually. Bond A will mature in 5 years while bond B will mature in 6 years. If the yields to maturity on the two bonds change from 12 percent to 10 percent, both bonds will:

A) increase in value, but bond B will increase more than bond A.

B) increase in value, but bond A will increase more than bond B.

C) decrease in value, but bond A will decrease more than bond B.

D) decrease in value, but bond B will decrease more than bond A.

Baran

 

The correct answer is A

 

There are three features that determine the magnitude of the bond price volatility:

(1) The lower the coupon, the greater the bond price volatility.

(2) The longer the term to maturity, the greater the price volatility.

(3) The lower the initial yield, the greater the price volatility.

Since both of these bonds are the same with the exception of the term to maturity, the bond with the longer term to maturity will have a greater price volatility.  Since bond value has an inverse relationship with interest rates, when interest rates decrease bond value increases. 

Baran

 

7、Which of the following bonds bears the greatest price impact if its yield declines by one percent? A bond with:

A) 30-year maturity and selling at 100.

B) 30-year maturity and selling at 70.

C) 10-year maturity and selling at 100.

D) 10-year maturity and selling at 70.

Baran

 

The correct answer is B

 

There are three features that determine the magnitude of duration:

(1) The lower the coupon, the greater the bond price volatility.

(2) The longer the term to maturity, the greater the price volatility.

(3) The lower the initial yield, the greater the price volatility.

The bond with the 30-year maturity will have a greater price impact than the 10-year maturity. The bond selling at the greatest discount will have a large price impact, a discount means that the coupon payments are low or the initial yield is low. So, the bond with the 30-year maturity and selling at 70 will have the greatest price volatility.

Baran

 

8、The convexity of a U.S Treasury bond is usually:

A) negative.

B) zero.

C) additional information is required.

D) positive.

Baran

 

The correct answer is D

 

One characteristic of all noncallable bonds is that they have positive convexity and U.S. Treasury bonds are noncallable bonds.