1. Use duration to explain the negative convexity exhibited by callable bonds. Why is negative convexity a negative attribute from the investors viewpoint?

2. What happens to the average life of a pool of mortgages when prepayment speed increases? Why does prepayment speed increase when interest rates decrease? Discuss the negative convexity exhibited by mortgage-backed passthrough certificates in the context of duration and pre-payment speed.

3. Suppose a financial institution currently has a positive duration gap. How would its net worth be expected to vary with changes in interest rates? Explain. Explain how a financial institution could immunize its net worth from changes in interest rates.

4. In the context of duration gap management (or asset/liability management), explain the difference one would expect to see in the duration of the assets of a life insurance company as opposed to a commercial bank, assuming both institutions want to immunize their exposure to interest rate risk.