Part 1
1. T-Bill Yield Assume an investor purchased a six month T-bill with a $10,000 par value for $9,000 and sold it 90 days later for $9,100. What is the yield?
2. Repurchase Agreement Stanford Corporation arranged a repurchase agreement in which it purchased securities for $4.9 million and will sell the securities back for $5 million in 40 days. What is the yield (or repo rate) to Stanford Corporation?
8. Effective Yield A U.S. investor obtains British pounds when the pound is worth $1.50 and invests in a one-year money market security that provides a yield of 5 percent (in pounds). At the end of one year, the investor converts the proceeds from the investment back to dollars at the prevailing spot rate of $1.52 per pound. Calculate the effective yield.
3. T-Bill Yield
a. Determine how the annualized yield of a T-bill would be affected if the purchase price were lower. Explain the logic of this relationship.
b. Determine how the annualized yield of a T-bill would be affected if the selling price were lower. Explain the logic of this relationship.
c. Determine how the annualized yield of a T-bill would be affected if the number of days were reduced, holding the purchase price and selling price constant. Explain the logic of this relationship.
Part 2
1. Global Interaction of Bond Yields: If bond yields in Japan rise, how might U.S. bond yields are affected? Why?
2. Impact of Credit Crisis on Junk Bonds Explain how the credit crisis affected the default rates of junk bonds and the risk premiums offered on newly issued junk bonds.
Part 3
1. Bond Valuation Assume the following information for an existing bond that provides annual coupon payments: Par value = $1,000 Coupon rate = 11% Maturity = 4 years Required rate of return by investors = 11%
a. What is the present value of the bond?
b. If the required rate of return by investors were 14 percent instead of 11 percent, what would be the present value of the bond?
c. If the required rate of return by investors were 9 percent, what would be the present value of the bond?
2. Bond Value Sensitivity to Exchange Rates and Interest Rates Cardinal Company, a U.S.-based insurance company, considers purchasing bonds denominated in Canadian dollars, with a maturity of six years, a par value of C$50 million, and a coupon rate of 12 percent. Cardinal can purchase the bonds at par. The current exchange rate of the Canadian dollar is $0.80. Cardinal expects that the required return by Canadian investors on these bonds four years from now will be 9 percent. If Cardinal purchases the bonds, it will sell them in the Canadian secondary market four years from now. It forecasts the exchange rates as follows:
|
YEAR
|
EXCHANGE RATE OF C$
|
YEAR
|
EXCHANGE RATE OF C$
|
|
1
|
$0.80
|
4
|
$0.72
|
|
2
|
0.77
|
5
|
0.68
|
|
3
|
0.74
|
6
|
0.66
|
a. Refer to earlier examples in this Part to determine the expected U.S. dollar cash flows to Cardinal over the next four years. Determine the present value of a bond.
b. Does Cardinal expect to be favorably or adversely affected by the interest rate risk? Explain.
c. Does Cardinal expect to be favorably or adversely affected by exchange rate risk? Explain.
Part 4
1. Mortgage Rates and Risk: What is the general relationship between mortgage rates and long-term government security rates? Explain how mortgage lenders can be affected by interest rate movements. Also explain how they can insulate against interest rate movements.
2. Mortgage Maturities: Why is the 15-year mortgage attractive to homeowners? Is the interest rate risk to the financial institution higher for a 15-year or a 30- year mortgage? Why?