1.Smith purchases a $1000 par value, ten year, 5% bond with semiannual coupons.

Smith pays a price

of P1. After six years, i.e., following the twelfth coupon, Smith sells the bond to Jones at a price of P2. Jones
retains the bond to maturity.
The yield rate on Smith’s investment is 7% convertible semiannually. The yield rate on Jones’s investment is
6% convertible semiannually.
What is P1?
2. An investor purchases a portfolio consisting of three bonds. Bond A has annual coupons of 6% and
matures for its face amount of 1,000 in ten years. It is purchased for 1,000. Bonds B and C are zero-coupon
bonds, maturing for 1,000 each in five and ten years, respectively. All three bonds have the same yield rate.
Calculate the Macaulay duration in years at the time of purchase of the portfolio with respect to the
common yield rate.
3.A company would to be protected from large interest rate changes. It has a liability of 5,000 due at time
3, and three possible sets of asset cash flows:
I. A1=1,511.72,A4=3,500.00
II. A2=3,481.00,A4=1,412.20
III. A1=2,580.95,A4=2,625.00
where At is the asset cash flow at time t.
The effective interest rate is 5% per time period.
Determine which set(s) of asset cash flows fully immunize the liability.
4.Stan elects to receive his retirement benefit over 20 years at the rate of 2,000 per month beginning one
month from now. The monthly benefit increases by 5% each year.
At a nominal interest rate of 6% convertible monthly, calculate the present value of the retirement benefit.
5.A geometric perpetuity-due provides annual payments. The first payment is 1, and each subsequent
payment is 2% less than the previous payment. Let M be the price of this perpetuity using an annual
effective interest rate of 8%.
The price should have been calculated using an annual effective interest rate of 7%. Let P be the correct
price of this perpetuity and let E be the estimate of P based on the initial price, M, using the first-order
Macaulay approximation.
Calculate (E−P)/P, the percentage error of the estimate.
6.An n-year 100 face amount bond has an annual coupon rate of r paid semiannually. The price of the bond
is 91.8243 based on an annual yield rate of 4% compounded semiannually.
The book value of the bond immediately after the nth coupon payment is 95.5087.
Calculate n.
7.You are given the following spot rates:

Term 1 2 3 4

Spot Rate 5.00% 6.59% 6.80% 7.00%

One year from now, you are considering the purchase of a 3 year zero coupon bond with a par value of
1,000. What price would you pay for the bond in one year?
Round to the nearest dollar.
8.A company has liabilities of 1,000 and 300 due at the end of years two and four, respectively. The
company develops an investment program that produces asset cash flows of X and Y at the end of years
one and three, respectively. The investment portfolio is constructed to match the present value and
duration of the company’s payment obligations based on an annual effective rate of interest of 5%.
Calculate Y/X.
9.Matthew makes a series of payments at the beginning of each year for 20 years. The first payment is 100.
Each subsequent payment through the tenth year increases by 5% from the previous payment. After the
tenth payment, each payment decreases by 5% from the previous payment.
Calculate the present value of these payments at the time the first payment is made using an annual
effective rate of 7%.
10.A company must pay liabilities of 1,000 at the end of year 1 and X at the end of year 2. The only
investments available are:
i. One-year zero-coupon bonds with an annual effective yield of 5%
ii. Two-year bonds with a par value of 1,000 and 10% annual coupons, with an annual effective yield of
6%
The company constructed a portfolio that creates an exact cash flow matching strategy for these liabilities.
The total purchase price of this portfolio is 1,783.76.
Calculate the amount invested in the one-year zero-coupon bonds.
11.A railroad company is required to pay 79,860, which is due three years from now. The company invests
15,000 in a bond with modified duration 1.80, and 45,000 in a bond with modified duration Dmod, to
Redington immunize its position against small changes in the yield rate.
The annual effective yield rate for each of the bonds is 10%.
Calculate Dmod.
12.A ten-year bond with a face amount of 1,000, a redemption value of C, and an annual coupon rate of 7%
paid semiannually is purchased at a discount to yield an annual nominal rate of 7.5%, convertible
semiannually.
The accumulation of discount in the 12th coupon is 7.
Calculate C.
13.Frederick currently holds three bonds: bond A, bond B and bond C.
• Bond A is a zero-coupon bond with a remaining of five years to maturity.
• Bond B has modified duration of 8.75 and a market value of 1,750.
• Bond C has a coupon rate of 6%, a face value of 1,500, and a remaining life of ten years. Coupons
are paid on an annual basis and the next coupon is paid in one year.
All bonds will be redeemed at 1,500 at their respective maturity dates. The current market interest rate is
3% annual effective.
Calculate the Macaulay duration of Frederick’s portfolio using the market value of the bonds.
14.An annuity has the first monthly payment of 750 occurring in five years. Each payment thereafter is 1.0%
greater than the preceding payment. The final payment occurs exactly 15 years after the first payment.
The annuity has a present value of P based on an annual nominal interest rate of 7.2% compounded
monthly.
Calculate P.
15.A perpetuity-immediate with annual payments consists of ten level payments of k, followed by a series
of increasing payments. Beginning with the eleventh payment, each payment is 200 larger than the
preceding payment.
Based on an annual effective interest rate of 5.2%, the present value of the perpetuity is 50,000.
Calculate k.
16.You are given the following spot rates:

Term 1 2 3

Spot Rate 5.00% s2 6.80%

The annual effective yield of a 3-year bond sold at par with annual coupons is 6.75%. Calculate s2.
17.An insurance company has a liability of 2,662 that is due at the end of three years. The present value of
this liability is 2,000. There are two investments available: a one-year zero-coupon bond and a four-year
zero-coupon bond.
The company wants to find an investment plan that satisfies Redington immunization.
Calculate the amount the company invests in the one-year zero-coupon bond.
18.A perpetuity-immediate has monthly payments that increase by 5% every 12 payments. The initial 12
payments are 500 each.
The present value of this perpetuity-immediate, using an annual effective interest rate of 8% is X.
Calculate X.
19.A 100,000 loan has an annual nominal interest rate of 8% convertible quarterly. The loan will be repaid
with quarterly payments and the first payment is due three months from the date of the loan.
For the first five years each payment will be 2,500. All payments thereafter will be 5,000 except for a final
balloon payment, which will be less than 10,000.
Calculate the balloon payment.