TMA Template FIN357e Fixed Income Securities Tutor-Marked Assignment July 2019 Presentation FIN357e Tutor-Marked Assignment SINGAPORE UNIVERSITY OF SOCIAL SCIENCES (SUSS) Page 2 of 5 TUTOR-MARKED...

The assignment is on Fixed Income Securities



TMA Template FIN357e Fixed Income Securities Tutor-Marked Assignment July 2019 Presentation FIN357e Tutor-Marked Assignment SINGAPORE UNIVERSITY OF SOCIAL SCIENCES (SUSS) Page 2 of 5 TUTOR-MARKED ASSIGNMENT (TMA) This assignment is worth 38% of the final mark for FIN357e Fixed Income Securities. The cut-off date for this assignment is 15 October 2019, 2355 hrs. Note to Students: You are to include the following particulars in your submission: Course Code, Title of the TMA, SUSS PI No., Your Name, and Submission Date. You must answer ALL the questions. (Total 100 marks) Question 1 (a) Suppose that you are given the following information about two callable bonds of the same issue that can be called immediately: You are told that both bonds have about the same maturity and the coupon rate of one bond is 7% and the other is 13%. Suppose that the yield curve for this issuer is flat at 8%. Based on this information, evaluate which bond is the lower coupon bond and which is the higher coupon bond? Explain why. (7 marks) (b) Suppose that a 6% coupon corporate bond is immediately callable. Also suppose that if this issuer issues new bonds the coupon rate would be 12%. Why would the modified duration be a good approximation of the effective duration for the old bond? (6 marks) (c) A three-year old 10-year 9% semi-annual coupon bond is selling at $1,138.8245 today. If the yield increases by 75 basis points, how much of the price change is due to convexity of the bond? (Face Value = $1,000) (7 marks) -50 basis points +50 basis points Bond ABC +2% -5% Bond XYZ +11% -8% Estimated % price change if interest rates change by: FIN357e Tutor-Marked Assignment SINGAPORE UNIVERSITY OF SOCIAL SCIENCES (SUSS) Page 3 of 5 Question 2 “Hyflux default signals more trouble ahead for Singapore bond market: S&P”. (Headline in Business Times article dated 9 April 2019) (a) Based on your understanding of credit analysis, analyse the claim in the headline of the article. (10 marks) (b) Discuss why lenders to Hyflux would place much less emphasis on its electricity generation assets as collateral and instead focus on Hyflux’s revenue? (10 marks) Question 3 (a) What is the reinvestment risk and interest rate risk associated with the Yield-to- Maturity measure? Describe and appraise these notions (4 marks) (b) The following yield and prices are reported in the financial press. Are any of them incorrect assuming that the reported price and coupon rate are correct? If so, explain why. (No calculations are needed to answer this question) (8 marks) (c) Assuming the Expectation Theory holds, and the 1-year forward rate beginning in 6 months is 9.25%, arbitrage the market with the given spot rates below. Determine the arbitrage profit based on $1 million borrowed. (Assume monthly compounding) (8 marks) Bond Price Coupon (%) Current Yield (%) Yield to Maturity (%) A 100 6.0 5.0 6.0 B 110 7.0 6.4 6.1 C 114 7.5 7.1 7.7 D 95 4.7 5.2 5.9 E 75 5.6 5.1 4.1 FIN357e Tutor-Marked Assignment SINGAPORE UNIVERSITY OF SOCIAL SCIENCES (SUSS) Page 4 of 5 Question 4 The following question concerns the binomial tree model which is a well-known model developed for risk hedging and immunisation involving options. Given in Exhibit A below are the on-the-run Treasury rates. Exhibit A The 4-period binomial tree under volatility assumptions 15% and 25% of these Treasury rates are shown respectively in Exhibit B and Exhibit C (at the end of this paper). Given an option-free annual bond with face value $100, coupon 8% and 4 years to maturity, (a) Price this bond with the spot rate curve given in Exhibit A. (4 marks) (b) Price this bond again with the binomial trees in Exhibit B and C. (6 marks) (c) Comment on your findings in parts (a) and (b) above. (4 marks) (d) Price this bond again assuming it is a callable bond with call price $102, $101 and $100 in years 1 to 3 respectively with the binomial trees in Exhibit B and C. (6 marks) (e) Comment on your findings in part (d) above, specifically compare them with your answers in parts (a) to (c). (4 marks) (f) If the observed market price of this callable bond is $102.78334, determine the nominal spread and Z-spread of this bond. (6 marks) (g) At this market price $102.78334, what is the Option Adjusted Spread under Exhibit B and C. (6 marks) (h) Comment on your answers in part (g) above. (4 marks) FIN357e Tutor-Marked Assignment SINGAPORE UNIVERSITY OF SOCIAL SCIENCES (SUSS) Page 5 of 5 Exhibit B Exhibit C ---- END OF ASSIGNMENT ---- Exhibit B: Binomial Tree under 15% Volatility Assumption 0 1 2 3 4 node uuuu rate PV/FaceValue 100 coupon 8 r34uuu 0.168871 92.39686 8 r23uu uuud 0.127740 90.9372 100 8 8 r12u r34uud 0.065319 0.125103 96.0391 95.9912 8 8 r01 r23ud uudd 0.035000 0.094632 104.1649 96.5624 100 8 8 r12d r34udd 0.048390 0.092678 102.3251 98.8397 8 8 r23dd uddd 0.070105 101.0860 100 8 8 r34ddd 0.068658 101.0614 8 dddd 100 8 Exhibit C: Binomial Tree under 25% Volatility Assumption 0 1 2 3 4 node uuuu rate PV/FaceValue 100 coupon 8 r34uuu 0.233004 87.59096 8 r23uu uuud 0.157548 86.2275 100 8 8 r12u r34uud 0.072364 0.141324 93.5213 94.6269 8 8 r01 r23ud uudd 0.035000 0.095558 104.1649 96.3297 100 8 8 r12d r34udd 0.043891 0.085717 104.0037 99.4734 8 8 r23dd uddd 0.057959 103.3943 100 8 8 r34ddd 0.051990 102.6626 8 dddd 100 8 Tutor-Marked Assignment July 2019 Presentation TUTOR-MARKED ASSIGNMENT (TMA) Course Code FIN357 Fixed Income Securities Study Guide (5CU) Course Development Team Head of Programme : Dr Tan Chong Hui Course Developer : Dr Ding Ding Production : Educational Technology & Production Team © 2019 Singapore University of Social Sciences. All rights reserved. No part of this material may be reproduced in any form or by any means without permission in writing from the Educational Technology & Production, Singapore University of Social Sciences. Educational Technology & Production Singapore University of Social Sciences 463Clementi Road Singapore 599494 Release V1.5 CONTENTS SECTION 1: COURSE GUIDE 1.1 Introduction ..................................................................................................... 1 1.2 Course Description and Aims ....................................................................... 2 1.3 Learning Outcome .......................................................................................... 2 1.4 Overall Assessment ........................................................................................ 3 1.5 Learning Materials .......................................................................................... 5 SECTION 2: STUDY UNITS STUDY UNIT 1 Learning Outcomes ···················································································· SU1-1 Overview ······································································································ SU1-1 Chapter 1: Introduction to Fixed Income Securities ····························· SU1-2 Chapter 2: Risks associated with Investing in Bonds ···························· SU1-7 Chapter 3: Major Bond Types and their Characteristics ····················· SU1-10 STUDY UNIT 2 Learning Outcomes ···················································································· SU2-1 Overview ······································································································ SU2-1 Chapter 4: Yield Spreads and Interest Rate Determination ·················· SU2-2 Chapter 5: Valuation of Bonds