Question 1

Would it make sense to buy a house when mortgage rates are 14% and expected inflation is 15%? Explain your answer.

Accepted Answer

The answer of Would it make sense to buy a...

Question 2

The duration of a coupon bond increases
A)the longer is the bond's term to maturity.
B)when interest rates increase.
C)the higher the coupon rate on the bond.
D)the higher the bond price.

Accepted Answer

The duration of a coupon bond increases as the bond's term to maturity increases. This is because the longer the bond's term to maturity, the more sensitive it is to changes in interest rates, which ultimately affects the bond's price. Thus, longer-term bonds have longer durations.

Question 3

If a financial institution has 50% of its portfolio in a bond with a five-year duration and 50% of its portfolio in a bond with a seven-year duration,what is the duration of the portfolio?
A)12 years
B)7 years
C)6 years
D)5 years

Accepted Answer

The duration of a portfolio is calculated as a weighted average of the duration of the individual securities in the portfolio. The weight is based on the proportion of the portfolio invested in each security. Therefore, the duration of this portfolio can be calculated as follows:

(50% * 5 years) + (50% * 7 years) = 6 years

Therefore, the duration of the portfolio is 6 years. Option C is the correct answer.

Question 4

Assuming the same coupon rate and maturity length,the difference between the yield on a Treasury Inflation Protected Security and the yield on a nonindexed Treasury security provides insight into
A)the nominal interest rate.
B)the real interest rate.
C)the nominal exchange rate.
D)the expected inflation rate.

Accepted Answer

The answer of Assuming the same coupon rate and maturity...

Question 5

Comparing a discount bond and a coupon bond with the same maturity,
A)the coupon bond has the greater effective maturity.
B)the discount bond has the greater effective maturity.
C)the effective maturity cannot be calculated for a coupon bond.
D)the effective maturity cannot be calculated for a discount bond.

Accepted Answer

The answer of Comparing a discount bond and a coupon...

Question 6

The interest rate on Treasury Inflation Protected Securities is a direct measure of
A)the real interest rate.
B)the nominal interest rate.
C)the rate of inflation.
D)the rate of deflation.

Accepted Answer

The interest rate on Treasury Inflation Protected Securities (TIPS) is a direct measure of the real interest rate because it is adjusted for inflation. TIPS provide investors with a return that is guaranteed to preserve the purchasing power of their investment by adjusting the principal value of the security based on changes in the Consumer Price Index (CPI). Therefore, the interest rate on TIPS reflects the nominal interest rate plus the rate of inflation expectations, which leads to the real interest rate.

Question 7

All else equal,the ________ the coupon rate on a bond,the ________ the bond's duration.
A)higher; longer
B)higher; shorter
C)lower; shorter
D)greater; longer

Accepted Answer

Duration measures the sensitivity of a bond's price to changes in interest rates. All else equal, a higher coupon rate means that more cash flows are received earlier, which reduces the bond's sensitivity to changes in interest rates, and therefore shorter duration. So, the higher the coupon rate, the shorter the bond's duration.

Question 8

An asset's interest rate risk ________ as the duration of the asset ________.
A)increases; decreases
B)decreases; decreases
C)decreases; increases
D)remains constant; increases

Accepted Answer

The answer of An asset's interest rate risk ________ as...

Question 9

Duration is
A)an asset's term to maturity.
B)the time until the next interest payment for a coupon bond.
C)the average lifetime of a debt security's stream of payments.
D)the time between interest payments for a coupon bond.

Accepted Answer

Duration is the average lifetime of a debt security's stream of payments, taking into account both the timing and size of cash flows. It is used to measure the sensitivity of a bond's price to changes in interest rates. Choices A, B, and D are all related to specific aspects of a bond's cash flows, but do not capture the overall concept of duration.

Question 10

All else equal,when interest rates ________,the duration of a coupon bond ________.
A)rise; falls
B)rise; increases
C)falls; falls
D)falls; does not change

Accepted Answer

When interest rates rise, bond prices fall. This decrease in price causes bondholders to experience a capital loss. However, the magnitude of the capital loss depends on the bond's duration. The duration of a bond is a measure of its sensitivity to changes in interest rates. In general, the longer the duration of a bond, the greater its sensitivity to interest rate changes.

As interest rates rise, the duration of a coupon bond falls. This is because the bond's cash flows are discounted at a higher rate, causing the present value of the cash flows to decline. The decline in the present value of the cash flows reduces the weighted average time it takes to receive the cash flows, which is the duration of the bond. Therefore, choice A is correct.

Question 11

If you expect the inflation rate to be 4 percent next year and a one year bond has a yield to maturity of 7 percent,then the real interest rate on this bond is
A)-3 percent.
B)-2 percent.
C)3 percent.
D)7 percent.

Accepted Answer

The real interest rate can be approximated using the Fisher equation: real interest rate ≈ nominal interest rate - inflation rate. Therefore, 7% - 4% = 3%.

Question 12

Assuming the same coupon rate and maturity length,when the interest rate on a Treasury Inflation Protected Security is 3 percent,and the yield on a nonindexed Treasury bond is 8 percent,the expected rate of inflation is
A)3 percent.
B)5 percent.
C)8 percent.
D)11 percent.

Accepted Answer

The difference between the yield on the TIPS (3%) and the nonindexed Treasury bond (8%) can be considered the expected rate of inflation. Therefore, expected rate of inflation = 8% - 3% = 5%.

Question 13

If you expect the inflation rate to be 12 percent next year and a one-year bond has a yield to maturity of 7 percent,then the real interest rate on this bond is
A)-5 percent.
B)-2 percent.
C)2 percent.
D)12 percent.

Accepted Answer

The real interest rate can be approximated using the Fisher equation: real interest rate ≈ nominal interest rate - inflation rate. Here, it's 7% - 12% = -5%.

Quiz 4: Understanding Interest Rates

Would it make sense to buy a house when mortgage rates are 14% and expected inflation is 15%? Explain your answer.

The duration of a coupon bond increases

If a financial institution has 50% of its portfolio in a bond with a five-year duration and 50% of its portfolio in a bond with a seven-year duration,what is the duration of the portfolio?

Assuming the same coupon rate and maturity length,the difference between the yield on a Treasury Inflation Protected Security and the yield on a nonindexed Treasury security provides insight into

Comparing a discount bond and a coupon bond with the same maturity,

The interest rate on Treasury Inflation Protected Securities is a direct measure of

All else equal,the the coupon rate on a bond,the the bond's duration.

An asset's interest rate risk as the duration of the asset .

Duration is

All else equal,when interest rates ,the duration of a coupon bond .

If you expect the inflation rate to be 4 percent next year and a one year bond has a yield to maturity of 7 percent,then the real interest rate on this bond is

Assuming the same coupon rate and maturity length,when the interest rate on a Treasury Inflation Protected Security is 3 percent,and the yield on a nonindexed Treasury bond is 8 percent,the expected rate of inflation is

If you expect the inflation rate to be 12 percent next year and a one-year bond has a yield to maturity of 7 percent,then the real interest rate on this bond is