humped yield curve quizlet
Instrument 1 —Collateralized Debt Obligation • Global Indexes What are the Fundamental Bond Pricing Properties? Downward sloping C. Horizontal D. Humped 6-16 Chapter 06 - Working Capital and the Financing Decision 96. 1. An Overview of Corporate Finance and A parallel shift in the yield curve neither flattens nor steepens the yield curve. C= (126.4236+118.1528-122.2018*2)/0.01^2*(1/122.2018)= 14.1405 Chapter 8: Risk & rates of Return The normal yield curve has a positive slope. Royal Dutch and Shell). Again a market is a transaction, not a physical location. b. This stands true for securities with longer maturities that have greater risk exposure as opposed to short term securities. * Legal entity separate from its owners must be legally formed Since 1986 the yield curve has had some measure of humpedness 25% of the time. LEARNING OBJECTIVES • The Yield Curve MD(5) = 5/1.01479= 4.9271, if delta y=1%, delta B/B=-4.9271% Markets for physical assets（财产，有利条件）: Because the interest rates do not change in the same amount of percentages, the yield curve is steeper. MD(1)=1/1.00317=0.9968, if delta y=1%, delta B/B= -0.9968% A humped yield curve is where yield increases for a range of maturities and then decreases. | | 2. Interest rates have long been recognized as important to the risk management of insurance liabilities. A yield curve where interest rates on medium-term maturities are higher than rates on both short-and long-term maturities: Term "Normal" Yield Curve: Definition. How does Bond Market Trading Work? She also expects to invest substantial amounts of money through Balik and Kiefer. A parallel shift in the yield curve is when interest rates across all maturities change by the same number of basis points. 9 Commonly there are three kinds of Yield Curves that are observed in the financial markets. There are two common explanations for upward sloping yield curves. C. inflation is expected to rise in the future. According to a class lecture, six times when the yield curve became inverted, there was an economic recession. | | 3. Financial assets are intangible. The shape of the yield curve changes over time as interest rates change in the marketplace. Start studying Finance Chapter 6 terms. | increases as the number of discount periods increases. 5. Since this part of the course deals with different types of markets, let us start by defining what these markets are. Determinants of market interest rates (section 6-3) How are Price and Yield of a Bond Calculated? Part 2 On Feb. 1, the two … (What are investors expectations?) Investors demand higher interest when lending their money for longer periods. (2) Bonds issued by the same agency but have different term to maturity (i.e. ...Working Draft: No Guarantees August 27, 1998 Home page: http: www.stern.nyu.edu ~dbackus As this happens, prices on long-term debt rise (yields drop) and prices on short term debt plummet (yields rise). 2. However, there are many types of bonds: bonds with different maturity, bonds issued by different parties (i.e. Flat (Humped) Yield Curve. | sales maximization | | 4. a. What is the Term Structure of Interest Rates? | - | | Dividend Imputation | | 4.1 Price and Yield : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : 4.2 More on Duration : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : 4.3 Immunization : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : 4.4 Convexity optional : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : 4.5 Fixed Income Funds : : : : : : : : : : : : : : : : :...... ...maturities can have different interest rates. CONTENTS The exchange could be goods for goods, goods for service, or goods and services for money. A yield curve is a way to easily visualize this difference; it's a graphical representation of the yields available for bonds of equal credit quality and different maturity dates. When the yield curve is flat, then it generally indicates a slow down in the economy so investors are not being compensated for the risk of taking on longer term bonds. 1 2 1. Whereby, if that date was not a business date the preceding date was selected as shown in the table below. a). You This is the most common shape for the curve and, therefore, is referred to as the normal curve. Although the price may not completely converge, but the premium tends to narrow over time. Bond value when zero-curve shifts down by 1% = 5/1.005+5/1.0055^2+5/1.0065^3+5/1.0075^4+5/1.01^5+5/1.0125^6+5/1.015^7+105/1.0155^8= $126.4236 The yield curve flattens—that is, it becomes less curvy—when the difference between yields on short-term bonds and yields on long-term bonds decreases. However, other technical factors such as lower supply of long-term bonds or an increased demand for long-term bonds may cause a humped yield curve. * Elected by shareholders | The present value of a single future sum: | 1. B. interest rates are expected to fall. • The Impact of Maturity 3. It is therefore prudent to expand your preparation beyond this... ...Part 1 Since the yield spread between on- and off-the-run bonds is very narrow, it is possible to make significant profits only with large positions. 3. 3. Everybody sells the short-term debt in order to buy the long-term debt. 100% of the time (since 1986 at least) after the yield curve took on a humped shape, stocks eventually fell quite a lot, but with a variable lead time. Markets, Institutions, and Interest Rates These ideas were pioneered in the actuarial profession by the British actuary Frank Redington (1952). Andrew Ang* and Michael Sherris† from: Daisy D) The expected return on corporate bonds decreases as default risk increases. B) capitalized risk. | - | | * Shareholders compute tax at their own tax rate (τp) based on the corporation’s pre-tax income, then subtract the tax paid at the corporate level 4) An increase in the riskiness of corporate bonds will _____ the yield on corporate bonds and _____ the yield on Treasury securities. This creates an inverted yield curve. Unit1a1 – Textbook Problems Zachary Skidmore July 15, 2011 BUS4070 – Mr. Walter Adams 6-1 YIELD CURVES The following yields on U.S. Treasury securities were taken from a recent financial publication: Term Rate 6 months 5.1% 1 year 5.5 2 years 5.6 3 years 5.7 4 years 5.8 5 years 6.0 10 years 6.1 20 years 6.5 30 years 6.3 a. | | 3. A) increase; reduce B) reduce; reduce C) increase; not affect D) reduce; increase E) increase; increase 5) Bonds with relatively low risk of default are called A) investment grade bonds. • Calculating the Yield on a Treasury Bill * Ultimate decision-making...... ...Chapter 1 2. What are Bond-Switching Strategies? Principles of Finance BS120 Tutorial Week 4: Topic Risk and Term-Structure of Interest Rates Issues Considered * Risk-free Rate. when there was a specifiable future date(usually medium-term fixed maturities) by which convergence of offsetting short and long positions in similar instruments should occur. Risk in a portfolio context (8-3) Explain the rationale for bond switching and describe bond-switching...... ...Q.No. | | 2. Name: 1. | | 2. • Calculating Accrued Interest Long-term bonds yield more than intermediate and short-term bonds. | - | | The time to maturity is smaller. Market value of portfolio= 1MM-0.2023MM=797700 Four Types of Firms US | Four Types of Firms AUS | Examples of financial assets include stocks （股票，存货）and bonds（债券）. B) An increase in default risk on corporate bonds lowers the demand for these bonds, but increases the demand for default-free bonds. Corporations 4. Yield-curve risk, also known as interest-rate risk, is the risk of interest rate changes affecting bond prices. Risk structure of interest rate As we have discussed in the previous section, the (relative) risk level of an asset affects its demands according to the theory of asset demand. Why is corporate finance important to all managers? Markets for financial assets: INTRODUCTION | | 5. Buying a stock makes you one of the owners of a corporations and buying a bond makes you one of the lenders. LTCM engaged in primarily in convergence and relative value strategies. Plotting the points on the basis of the data’s of interest rate and terms to maturity, the yield curve is drawn. * Shareholders: Own the Corp, but have no say in daily operations Bond value when zero-curve shifts up by 1% = 5/1.015+5/1.0155^2+5/1.0165^3+5/1.0175^4+5/1.02^5+5/1.0225^6+5/1.025^7+105/1.0255^8= $118.1528 If interest rates have been high but are expected to drop. This paper surveys the main concepts and techniques of recent developments in the modeling of the term structure of interest rates that are used in the risk management and valuation of interest-rate-dependent cash ﬂows. 3. 1. 4 Quantifying Interest Rate Risk 4. | | 4. Bond yields or interest rates are plotted against X-axis while time horizons are plotted on Y-Axis. If the company is paying 9% interest per year, how many loan payments must the company make? 2. A flat yield curve is where longer term maturity bonds and shorter term maturity bonds are close to each other. 1.1 Overview : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : 1.2 The Instruments : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : ...The Financial Environment: | increases as the discount rate increases. 39 Dellatorre is also very bright, and, therefore, she would like to understand, in general terms, what will happen to her money. Yield curves are usually upward sloping asymptotically: the longer the maturity, the higher the yield, with diminishing marginal increases (that is, as one moves to the right, the curve flattens out).. Problems 5-18 through 5-23 of chapter 5 are related to this topic. Answer: Corporate finance provides the skills managers need to: (1) identify and select the corporate strategies and individual projects that add value to their firm; and (2) forecast the funding requirements of their company, and devise strategies for acquiring those...... ...different trading strategies of LTCM Yield Curve. * Company earning for $1 dividend income: gross dividend=div1-tc Using the yield curve to predict interest rates (section 6-6) b. A normal yield curve is one in which longer-termed maturities have higher interest rates. Bond value when zero-curve shifts up by 1% =$118.1528 Plot a yield curve based on these data. Preface 1 Debt Instruments Please note that this is only a study guide and should not be taken as the actual content of your second exam. * Corporate tax rate is 34% By buying a financial asset you become an owner of a company or a lender to one. * Tax implications Why is the yield curve upward sloping in 2010? Lecturer: The fair value measurement of the Collateralized Debt Obligation investment shall be categorized within Level 3 of the fair value hierarchy. Humped Yield Curve: Definition. If you think about it intuitively, if you are lending your money for a longer period of time, you expect to earn a higher compensation for that. | 15 | | * Risk Premiums * Bond ratings * Yield Curves: normal, inverse, humped * Three theories of the yield curve: - The Pure-Expectations Theory of the Yield Curve. What is the market predicting about the future of short-term interest rates if the yield curve is: (a) upward sloping, (b) downward sloping, (c) humped? C) zero coupon bonds. b). This creates a rounded or humped curve. Fixed-Income Securities: A yield curve is a way to measure bond investors' feelings about risk, and can have a tremendous impact on … C) default premium. Find GCSE resources for every subject. 1. • Clearing and Settlement Key characteristics of bonds (7-2) | 1. | profit maximization | 2 | Important note: 1. Practice problems: 8-1, 8-3, 8-4, 8-6, 8-7, 8-11, 8-12, 8-14 i An upward-sloping yield curve: Term. money, bond pricing and yield. | | The reason for that is that debt issued for a longer term generally carries greater risk because of the greater likelihood of inflation or default in the long run. Analyze the impact of fi xed-income pricing properties on bond prices. yield curve from normal to inverted or vice versa. Practice problems: 7-1, 7-2, 7-3, 7-4, 7-5, 7-8, 7-9, 7-16 it involves long and short positions of similar instruments. In addition to these notes, please read chapter 3 and pages 191 through 206 of chapter 5. 4. | | 3. Face value of 5-year bond= 0.2023MM*1.479%=217727 Explain the way in which the default risk and illiquidity premium affect the price of corporate bonds. Humped yield curve: The intermediate yield is higher than both the short-term and long-term yields. Fixed-Income Securities: Based on the information retrieved from the Board of Governors of the Federal Reserve System on a 1-month business day, the following information concerning historical dairy interest rates on the U.S treasury was obtained. Now, let us look at the different types of markets: interest rate environment in which short-term debt securities yield more than intermediate and long-term securities. franking credit=gross div-div=div1-τc*τc ABSTRACT We will look at the behavior of interest rates of two groups of bonds: (1) Bonds with the same features but are issued by different agency. Pricing and Trading Traditional approaches to risk management and valuation are based on the concepts of immunization and matching of cash ﬂows. | In cases of zero correlations between the assets, risk can be fully eliminated through diversification | | An inverted yield curve would suggest that A. interest rates are expected to rise. Defi ne a real rate of return and a yield curve, and evaluate three theories of interest rate 7) An increase in the liquidity of corporate bonds will _____ the price of corporate bonds and _____ the yield of Treasury bonds. | Question | Options | Answer | Flat Yield Curve: Flat yield curves exist when shorter and longer-term yield rates are very close to one another. Recent developments have incorporated a stochastic approach to modeling...... ...called the A) junk premium. As a result, there is a different interest rate for each type of bond. 9 14 17 19 23 24 26 Corporate Ownership versus Control | The degree of risk reduction for a portfolio depends only on the number of securities in the portfolio | | • Calculating the Current Yield on a Bond Relative value strategy : It is a spread trade and it involves two assets whose prices or yields tend to converge with time . Be sure you know how to calculate any given components with given supporting information. Money markets are markets where money is borrowed for short time periods, usually less than a year. | 12 | 3 | A yield curve is typically upward sloping; as the time to maturity increases, so does the associated interest rate. • Duration as a Measure of Bond Price Volatility The Financial Environment | - | | life of the bond). | Your company has received a $50,000 loan from an industrial finance company. There are a number of factors that affect the risk level of a bond. The "Liquidity preference". Bond valuation (7-3) A) left; left B) left; right C) right; right D) right; left Dellatorre is a highly ranked tennis player who would like to start a company to produce and market apparel that she designs. In other words, investors need to be compensated with a higher return (in the form of higher interest rate) in order to induce them to hold the assets. | 1. • The Impact of the Coupon According to the theory of asset demand, this leads to an increase in interest rate. In other words, we want to look at the risk structure of interest rates. Whenever you exchange something for another you have a market. 3) Other things being equal, an increase in the default risk of corporate bonds shifts the demand curve for corporate bonds to the _____ and the demand curve for Treasury bonds to the _____. 100 bonds The aim of this paper is to discuss recent developments in interest rate term structure modeling and the application of these models to the interest rate risk management and valuation of cash ﬂows that are dependent on future interest rates. * Dividend imputation in Australia (franking credits) Market 1. ------------------------------------------------- © CSI GLOBAL 7•2 EDUCATION INC. (2011) | is generally larger than the future sum. government vs. corporate), etc. The different yields currently available on debt securities of similar credit quality according to their term-to-maturity, typically represented graphically. 802797-797700= $5097 increase 4. * Australian company tax rate: τc=30% The annual payments are $6,202.70. I Instruments with Fixed Payments Humped yield curves are a sign of economic transition, and could indicate slowed economic growth. Such cash ﬂows include the cash ﬂows on assets such as bonds and mortgage-backed securities as well as those for annuity products, life insurance products with interest-rate-sensitive withdrawals, accrued liabilities for deﬁnedbeneﬁt pension funds, and property and casualty liability cash ﬂows. % = $ 118.1528 c ) because personally I ’ m a bit deep into bonds, many... Years a go ( 1st January2012 ) back to five years a go ( 1st January2012 ) to! Be sure you know how to calculate any given components with given supporting.... Has had some measure of humpedness 25 % of the yield of Treasury bonds value, presenting the of... Through 5-23 of Chapter 5 are related to this Topic bonds is very narrow it... Different term to maturity, bonds issued by the British actuary Frank Redington ( 1952 ) that on 2! And LTCM makes a profit are observed in the market place as to what direction the fed will take is... With given supporting information the associated interest rate and terms to maturity increases, so does the interest change! As default risk on corporate bonds decreases as default risk and rate of (. Creates profitability the normal yield curve one knows what economy will do deals with maturity... Humped ) yield curve – no one knows what economy will do a corporations and buying a financial you! 6-16 Chapter 06 - Working Capital and the Financing Decision 96 long-term bonds yield more than intermediate short-term... At 3 % to one lending their money for longer periods expected to or! The difference between yields on short-term bonds and yields on the number of securities in the table below curvy—when! Generally, a flat yield curves the short-term and long-term securities the exchange could be for. Rationally, an investor would expect higher compensation ( yield ), thus giving rise a. 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With flashcards, games, and more with flashcards, games, and other study tools money markets transactions... ( 2011 ) 7•3 what are bond Indexes | profit maximization | 2 are bond Indexes two assets whose or... To risk management of insurance liabilities: bonds with different maturity, yield!
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