1. What is the difference between book value accounting and market value accounting? How do interest rate changes affect the value of bank assets and liabilities under the two methods? What is marking to market?
2. A six-year, $10 000 CD pays 6 per cent interest annually and has a 6 per cent yield to maturity. What is the duration of the CD? What would be the duration if interest were paid semi-annually? What is the relationship of duration to the relative frequency of
interest payments?
3. Maximum Superannuation Fund is attempting to balance one of the bond portfolios under its management. The fund has identified three bonds which have five-year maturities and which trade at a yield to maturity of 9 per cent. The bonds differ only in that the coupons are 7 per cent, 9 per cent and 11 per cent.
(a) What is the duration for each bond?
(b) What is the relationship between duration and the amount of coupon interest that is paid? Plot the relationship.
4. Consider a 12-year, 12 per cent annual coupon bond with a required return of 10 percent. The bond has a face value of $1000. Lo 6.4, 6.6
(a) What is the price of the bond?
(b) If interest rates rise to 11 per cent, what is the price of the bond?
(c) What has been the percentage change in price?
(d) Repeat parts (a), (b), and (c) for a 16-year bond.
(e) What do the respective changes in bond prices indicate?
5. Consider a five-year, 15 per cent annual coupon bond with a face value of $ 1000. The bond is trading at a yield to maturity of 12 per cent. Lo 6.4
(a) What is the price of the bond?
(b) If the yield to maturity increases 1 per cent, what will be the bonds new price?
(c) Using your answers to parts (a) and (b), what is the percentage change in the bonds price as a result of the 1 per cent increase in interest rates?
(d) Repeat parts (b) and (c) assuming a 1 per cent decrease in interest rates.
(e) What do the differences in your answers indicate about the rate-price relationships of fixed-rate assets?
6. What is a maturity bucket in the repricing model? Why is the length of time selected for repricing assets and liabilities important when using the repricing model?
7. Calculate the repricing gap and impact on net interest income of a 1 per cent increase in interest rates for the following positions:
a) Rate-sensitive assets = $100 million. Rate-sensitive liabilities = $50 million.
b) Rate-sensitive assets = $50 million. Rate-sensitive liabilities = $150 million.
c) Rate-sensitive assets = $75 million. Rate-sensitive liabilities = $70 million.
d) Compare the interest rate risk exposure of the institutions in parts (a), (b) and (c).
8. What is the CGAP effect? According to the CGAP effect, what is the relation between changes in interest rates and changes in net interest income when CGAP is positive? When CGAP is negative?
9. Use the following data to answer parts (a) through (c) Givebucks Bank Inc. ($ million) Rate-sensitive 50 Rate- 70 sensitive
Note: All rate-sensitive assets currently earn 10 per cent interest per annum. All fixed-rate assets earn 7 per cent per annum. Rate-sensitive liabilities currently pay 6 per cent per annum, while fixed-rate liabilities offer 6 per cent annual interest.
(a) What is Givebucks Bank’s current net interest income?
(b) What will the net interest income be if interest rates increase by 2 per cent?
(c) What is Givebucks’ repricing or funding gap? Use it to check your answer to part