Question #98

Reading: Reading 27 Valuation and Analysis of Bonds With Embedded Options

PDF File: Reading 27 Valuation and Analysis of Bonds With Embedded Options.pdf

Page: 31

Status: Unattempted

Part of Context Group: Q97-98
Shared Context
- Which of the following statements is most accurate regarding Diffle's calculation of duration and convexity? A) The duration estimate will be inaccurate since it does not account for any change in cash flows due to the call option embedded in the Hardin bond. duration =                 convexity =  V−−V+ 2 x V0 x Δy V+ + V−− 2V0 2 x V0 x(Δy)2 B) The estimates for both duration and convexity will be inaccurate because the OAS was not estimated again after the rate shock. C) The duration estimate for the Bratton bonds will reflect the projected percentage change in price for a 100-basis-point change in interest rates.
Question
Puldo notes that the duration estimate for the two bonds is not directly comparable. Assuming that the underlying option is at- or near-the-money, the duration of one of the bonds will be lower than the other one. Indicate whether the statements made by Diffle in his memo regarding the value of the embedded option and the effect of the volatility assumption are correct.
Answer Choices:
A. Both statements are correct
B. Only the statement regarding the effect of the volatility assumption is correct
C. Only the statement regarding the value of the embedded option is correct
No explanation available for this question.
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