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Online Quiz Questions for Week 4

Topic: Duration
Question: When interest rates decline, the duration of a 10-year bond selling at a premium
Correct Answer:

increases.

Question: Which of the following is incorrect?


Correct
Answer:

The duration of a zero-coupon bond decreases with an increase in time to


maturity.

Question: The duration of a bond that pays coupon interest annually is 8.05 years. The yield
to maturity of the bond is 10%. If the yield falls by 25 basis points, what is the percentage
change in the price of the bond?
Correct Answer:

1.83%

Question: The duration of a bond is positively correlated with the bond's


Correct Answer:

time to maturity.

Question: Which of the following two bonds is more price sensitive to changes in interest
rates?

A par value bond, X, with a 5-year-to-maturity and a 10% yield to maturity.

A zero-coupon bond, Y, with a 5-year-to-maturity and a 10% yield to maturity.


Selected
Answer:
Correct Answer:
Response
Feedback:

Both have the same sensitivity because both have the same yield to
maturity.
Bond Y because of the longer duration.
Duration is the best measure of bond price sensitivity; the longer the
duration the higher the price sensitivity.

Question: The two components of interest-rate risk are


Correct Answer:

price risk and reinvestment risk.

Question: Holding other factors constant, the interest-rate risk of a coupon bond is higher
when the bond's:
Correct Answer:

yield to maturity is lower.

Question: Duration is important in bond portfolio management because


I) it can be used in immunization strategies.
II) it provides a gauge of the effective average maturity of the portfolio.
III) it is related to the interest rate sensitivity of the portfolio.
IV) it is a good predictor of interest rate changes.

Selected Answer:

I and III

Correct Answer:

I, II, and III

Response
Feedback:

Duration can be used to calculate the approximate effect of interest rate


changes on prices, but is not used to forecast interest rates.

Question: When interest rates decline, the duration of a 10-year bond selling at a premium
Selected Answer:

decreases.

Correct Answer:

increases.

Response
Feedback:

The relationship between interest rates and duration is an inverse one for
coupon bonds.

Question: Which of the following is incorrect?


Correct
Answer:

The duration of a zero-coupon bond decreases with an increase in time to


maturity.

Question: Compute the duration of a par value bond with a coupon rate of 8% and a
remaining time to maturity of 3 years. Assume coupon interest is paid annually and the bond
has a face value $100.
Correct Answer:

2.783 years.

Question: The duration of a bond that pays coupon interest annually is 8.05 years. The yield
to maturity of the bond is 10%. If the yield falls by 25 basis points, what is the percentage
change in the price of the bond?
Correct Answer:

1.83%

Question: Which of the following are true about the interest-rate sensitivity of coupon
bonds?
I
Bond prices and yields are inversely related.
II Prices of long-term bonds tend to be more sensitive to interest rate changes than prices of
short-term bonds.
III Interest-rate risk is directly related to the bond's coupon rate.
IV The sensitivity of a bond's price to a change in its yield to maturity is inversely related to
the yield to maturity at which the bond is currently selling.
Correct Answer:

I, II, and IV

Question: You have an obligation to pay $148 in four years and 2 months. In which bond
would you invest your $100 to accumulate this amount, with relative certainty, even if the
yield on the bond declines to 9.5% immediately after you purchase the bond? All bonds pay
interest annually and have a face value of $100.
Selected Answer:

a 6-year; 10% coupon par value bond

Correct Answer:

a 5-year; 10% coupon par value bond

Response When duration = horizon date, one is immunized, or protected, against one

Feedback
:

interest rate change. The zero coupon bond has a D = 5 and the 4-year bond has
D < 4. Next choice should be the 5-year bond. Despite the change in yield to
9.5%, the consequent duration = (10/1.095)/100 *1 + (10/1.095 2)/100 *2
+(10/1.0953)/100 *3 +(10/1.0954)/100 *4 +(110/1.0955)/100 *5 = 4.2
years
4 years and 2 months. Therefore select 5 year, 10% coupon bond.