Part A (45 mins):
1. A 10-year, capital-indexed bond linked to the Consumer Price Index (CPI) is issued with a coupon
rate of 6% and a par value of 1,000. The bond pays interest semi-annually. During the first six
months after the bond's issuance, the CPI increases by 2%. On the first coupon payment date, the
bond's:
A. coupon rate increases to 8%.
B. coupon payment is equal to 40.
C. principal amount increases to 1,020
2. The repo margin on a repurchase agreement is most likely to be lower when:
A. the underlying collateral is in short supply.
B. the maturity of the repurchase agreement is long.
C. the credit risk associated with the underlying collateral is high
3. An investor who owns a bond with a 9% coupon rate that pays interest semiannually and matures
in three years is considering its sale. If the required rate of return on the bond is 11%, the price of
the bond per 100 of par value is closest to:
A. 95.00.
B. 95.11.
C. 105.15
4. A 365-day year bank certificate of deposit has an initial principal amount of USD 96.5 million and a
redemption amount due at maturity of USD 100 million. The number of days between settlement
and maturity is 350. The bond equivalent yield is closest to:
A. 3.48%.
B. 3.65%.
C. 3.78%.
5. In a securitization structure, time tranching provides investors with the ability to choose between:
A. extension risk and contraction risk.
B. fully amortizing loans and partially amortizing loans.
C. senior bonds and subordinate bonds.
6. An investor buys a three-year bond with a 5% coupon rate paid annually. The bond, with a yield-
to-maturity of 3%, is purchased at a price of 105.657223 per 100 of par value. Assuming a 5-basis
point change in yield-to-maturity, the bond’s approximate modified duration is closest to:
A. 2.78.
B. 2.86.
C. 5.56.
7. An investor buys a 6% annual payment bond with three years to maturity. The bond has a yield-to-
maturity of 8% and is currently priced at 94.845806 per 100 of par. The bond’s Macaulay duration is
closest to:
A. 2.62.
B. 2.78.
C. 2.83
8. A bond is currently trading for 98.722 per 100 of par value. If the bond’s yield-to-maturity (YTM)
rises by 10 basis points, the bond’s full price is expected to fall to 98.669. If the bond’s YTM
decreases by 10 basis points, the bond’s full price is expected to increase to 98.782. The bond’s
approximate convexity is closest to:
A. 0.071.
B. 70.906.
C. 1,144.628.
9. The one-year spot rate r(1) = 4%, the forward rate for a one-year loan beginning in one year is 6%,
and the forward rate for a one-year loan beginning in two years is 8%. Which of the following rates is
closest to the three-year spot rate?
A. 4.0%
B. 6.0%
C. 8.0
10. A one-year zero-coupon bond yields 4.0%. The two- and three-year zero-coupon bonds yield
5.0% and 6.0% respectively. The five-year spot rate is not given above; however, the forward price
for a two year zero-coupon bond beginning in three years is known to be 0.8479. The price today of
a five-year zero-coupon bond is closest to:
A. 0.7119.
B. 0.7835.
C. 0.9524
11. A four-year corporate bond with a 7% coupon has a Z-spread of 200 bps. Assume a flat yield
curve with an interest rate for all maturities of 5% and annual compounding. The bond will most
likely sell:
A. close to par.
B. at a premium to par.
C. at a discount to par.
12. Loss severity is best described as the:
A. default probability multiplied by the loss given default.
B. portion of a bond’s value recovered by bondholders in the event of default.
C. portion of a bond’s value, including unpaid interest, an investor loses in the event of
Default
13. A bond has an annual modified duration of 7.020 and annual convexity of 65.180. If the
bond’s yield-to-maturity decreases by 25 basis points, the expected percentage price change is
closest to:
A. 1.73%.
B. 1.76%.
C. 1.78%
14. When the investor’s investment horizon is less than the Macaulay duration of the bond she
owns:
A. the investor is hedged against interest rate risk.
B. reinvestment risk dominates, and the investor is at risk of lower rates.
C. market price risk dominates, and the investor is at risk of higher rates
15. A 5-year, 5% semiannual coupon payment corporate bond is priced at 104.967 per 100 of par
value. The bond's yield-to-maturity, quoted on a semiannual bond basis, is 3.897%. An analyst has
been asked to convert to a monthly periodicity. Under this conversion, the yield-to maturity is
closest to:
A. 3.87%.
B. 4.95%.
C. 7.67%.
Part B (45 mins) (in the real exam, there are four problems and time is 90 minutes)
1. A) Tatton compiles pricing data for a list of annual pay bonds (Exhibit 1). Each of the bonds
will mature in two years, and Tatton considers the bonds as being risk-free; both the one-
year and two-year benchmark spot rates are 2%.
Calculate the arbitrage prices of Bonds A, B and C
B) Next, Tatton uses the benchmark yield curve provided in Exhibit 2 to consider arbitrage
opportunities of both option-free corporate bonds and corporate bonds with embedded
options. The benchmark bonds in Exhibit 2 pay coupons annually, and the bonds are
priced at par.
Tatton then identifies three mispriced three-year annual-pay bonds and compiles data
on the bonds (see Exhibit 3).
Based on Exhibits 2 and 3, calculate the Hutto-Barkley corporate bond price.
2. Samuel & Sons is a fixed-income specialty firm that offers advisory services to investment
management companies. On 1 October 20X0, Steele Ferguson, a senior analyst at Samuel, is
reviewing three fixed-rate bonds issued by a local firm, Pro Star, Inc. The three bonds, whose
characteristics are given in Exhibit 1, carry the highest credit rating.
The one-year, two-year, and three-year par rates are 2.250%, 2.750%, and 3.100%,
respectively. Based on an estimated interest rate volatility of 10%, Ferguson constructs
the binomial interest rate tree shown in Exhibit 2.
A) Calculate the price of Bond 2
B) Calculate the price of Bond 3.