a) Given the current interest rate of 12%, calculate the duration for this cash flow stream. How do you interpret the concept "duration"? How is it related to another concept "immunization"?

b) Suppose that you own this stream of cash flows as an investment in fixed-income securities. How might you hedge this investment against interest rate risk? Illustrate that your hedging strategy does work by calculating the value of your investment at a particular future time point for a few interest rate scenarios, such as the initial interest rate of 12%, the interest rate rises to 14% or falls to 9%. Does your investment have more or less similar value?

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Consider the following cash flow stream: 1 Year CF 2 250 200 3 140 4 180 5 240 6 150 Consider the following cash flow stream: 1 Year CF 2 250 200 3 140 4 180 5 240 6 150

Answer rating: 100% (QA)

a Calculating the duration The duration of a cash flow stream is a measure of its sensitivity to changes in interest ratesA higher duration indicates that the cash flow stream is more sensitive to int... View the full answer