Problem
A. Why does duration model overpredict the fall in the bond's price for large interest rate increases and underpredict the increase in the bond's price for large interest rate decreases?
B. Explain how an FI's capital protects against credit risk and interest rate risk.
C. What are four major weaknesses of the repricing model?
D. The effect of an interest rate change on the market value of an FI's equity is a function of three things. What are they and how do they affect the equity value change?
E. What are arguments for and against requiring banks to mark all assets and liabilities to market continuously? Relate your arguments to managing credit risk and interest rate risk.