VAR

anbu.edu
Finance Junkie
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Joined: Mon Feb 04, 2013 3:35 pm

VAR

Postby anbu.edu » Tue Oct 15, 2013 1:30 pm

Marks: 1
Which of the following statements is/are true?
I. The convexity of a 10-year zero-coupon bond is higher than the convexity of a 10-year, 6% bond.
II. The convexity of a 10-year zero-coupon bond is higher than the convexity of a 6% bond with a duration of 10 years.
III. Convexity grows proportionately with the maturity of the bond.
IV. Convexity is always positive for all types of bonds.
V. Convexity is always positive for “straight” bonds.
Choose one answer.
a. I only Incorrect
b. I and II only Incorrect
c. I and V only Correct
d. II, III, and V only Incorrect
The correct answer is B
I and V only.
Because convexity is proportional to the square of time to payment, the convexity of a bond will be driven by the cash flows far into the future.
Answer I is correct because the 10-year zero has only one cash flow, whereas the coupon bond has several others that reduce convexity.
Answer II is false because the 6% bond with 10-year duration must have cash flows much further into the future, say in 30 years, which will create greater convexity.
Answer III is false because convexity grows with the square of time.
Answer IV is false because some bonds, for example MBSs or callable bonds, can have negative convexity.
Answer V is correct because convexity must be positive for coupon-paying bonds.

Can anyone explain the difference between 1st and 2nd option

pradeeppdy
Finance Junkie
Posts: 258
Joined: Thu Sep 20, 2012 3:42 pm

VAR

Postby pradeeppdy » Wed Oct 16, 2013 7:11 am

Coupon paying bond is less sensitive to interest rate change because they are getting there part of money in the form of coupon and they have some reinvestment risk, But Zero coupon bond can only pay you at the time of maturity( that's why they have more interest risk ). That's why convexity is more for zero coupon bond rather than Coupon paying bond.


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