V=100. IN NODAL PERIOD 1, THERE WILL BE TWO POSSIBLE PRICES

2: V

=100. In nodal period 1, there will be two possible prices:

2

V

= [(100 + 6.4) / 1.076 + (100+6.4) / 1.076] / 2 = 98.885

i,U

V

= [(100 + 6.4) / 1.068 + (100 + 6.4) / 1.068] / 2 = 99.625.

i,L

Since 98.885 is less than the put price, V

= 99

V

= [(99 + 6.4) / 1.076) + (99.625 + 6.4) / 1.076)] / 2 = 98.246.

0

Question #17 of 38

Question ID: 463764

The following are the yields on various bonds. The relevant benchmark is that of Treasury securities.

Treasury Bond Yield

4.00%

Bond Sector Yield

4.50%

Comparable Bond Yield

6.00%

ABC Bond Yield

6.50%

Is the ABC bond undervalued or overvalued and why? Using relative value analysis, the ABC bond is:

ᅞ

A)

overvalued because its spread is greater than that of comparable bonds.

ᅚ

B)

undervalued because its spread is greater than that of comparable bonds.

ᅞ

C)

undervalued because its yield is greater than that of Treasuries.

Explanation

The purpose of relative value analysis is to determine whether a bond is fairly valued. The bond's spread over some

benchmark is compared to that of a required spread to determine whether the bond is fairly valued. The required spread will

be that available on comparable securities. In this example, the relevant benchmark was Treasury securities. The spread for

ABC bonds over Treasuries was 2.5%. The spread for comparable bonds over Treasuries was 2.0%. The higher spread for

ABC bonds means that they are relatively undervalued (their price is low because their yield is higher).

Question #18 of 38

Question ID: 472599

Which of the following choices is least-likely a property of a binomial interest rate tree?

Mean reversion of interest rates.

ᅚ

A)

ᅞ

B)

Non-negative interest rates.

Higher volatility at higher rates.

A binomial interest rate tree has two desirable properties: non-negative interest rates and higher volatility at higher rates.

Binomial trees do not force mean reversion of rates.

Question #19 of 38

Question ID: 463766

The following are the yields on various bonds. The relevant benchmark is that of the bond sector.

Treasury Bond Yield

3.00%

Bond Sector Yield

3.25%

Comparable Bond Yield

5.75%

ABC Bond Yield

5.50%

undervalued because its spread is less than that of comparable bonds.

overvalued because its spread is less than that of comparable bonds.

undervalued because its yield is less than that of Treasuries.

be that available on comparable securities. In this example, the relevant benchmark was the bond sector. The spread for ABC

bonds over the bond sector was 2.25%. The spread for comparable bonds over the bond sector was 2.50%. The lower spread

for ABC bonds means that they are relatively overvalued (their price is high because their yield is lower).

Question #20 of 38

Question ID: 477718

Sam Roit, CFA, has collected the following information on the par rate curve, spot rates, and forward rates to generate a

binomial interest rate tree consistent with this data.

Maturity

Par Rate

Spot Rate

1

5%

5.000%

2

6%

6.030%

3

7%

7.097%

The binomial tree generated is shown below (one year forward rates) assuming a volatility level of 10%:

0

1

2

5%

7.7099%

C

A

9.2625%

B

Riot also generated another tree using the same spot rates but this time assuming a volatility level of 20% as shown below:

5%

8.9480%

13.8180%