You are working as an intern in an asset management firm that specializes in bonds. Your supervisor has informed you that he expects bond yields to go up by 1.2% in the near future and he would like you to determine the expected price change for a specific bond. The bond he wants you to analyse has 10 years to maturity and a par value of $100. Coupons are payable annually at a rate of 5.5% and the current Yield-to-Maturity is 2%.

(a) Calculate the fair value of this bond.

(b) Calculate the modified duration and the expected change in bond price (taking into consideration duration only) if your supervisor's view on interest rates is correct.

(c) Calculate the bond's convexity and the expected change in bond price taking into considered both duration and convexity.

(d) Assess the current economic situation and explain whether you agree with your supervisor's view on interest rates.

Answer rating: 100% (QA)

a To calculate the fair value of the bond we need to discount the future cash flows coupon payments and the final principal payment using the YieldtoM... View the full answer