LOS c: Explain how features of a bond (e.g., maturity, coupon, and embedded options) and the level of a bond's yield affect the bond's interest rate risk.

Q1. Which one of the following option-free bonds has the lowest interest rate risk?

A)   Bond issue 3.

B)   Bond issue 1.

C)   Bond issue 2.

Q2. What will happen to interest rate risk for an option-free bond if market yields decrease?

A)   Interest rate risk will decrease.

B)   Even if the term structure is flat, interest rate risk could go up or down based on the level of the term structure at the time market yields decrease.

C)   Interest rate risk will increase.

Q3. Which of the following bond features would result in lower interest rate risk? A:

A)   lower coupon rate.

B)   longer maturity.

C)   higher yield to maturity.

Q4. Tom Wilkens is a portfolio manager and has a retiree as a client. The client would like to invest in bonds with low interest rate risk. Which bond should Tom choose for his client? The bond with a:

A)   20 year maturity and a yield to maturity of 5%.

B)   10 year maturity and a yield to maturity of 5%.

C)   10 year maturity and a yield to maturity of 8%.

Q5. All else equal, the lower the bond’s yield to maturity, the:

A)   shorter the duration and the lower the interest rate risk.

B)   shorter the duration and the higher the interest rate risk.

C)   longer the duration and the higher the interest rate risk.

Q6. Which of the following bonds, all else equal, would be the most sensitive to interest rate changes?

A)   10% coupon, 5 years to maturity.

B)   5% coupon, 25 years to maturity.

C)   10% coupon, 25 years to maturity.

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