Reference no: EM131344150

Assignment:-

In this assignment, you are expected to:

• Value fixed income securities
• Demonstrate the essential knowledge and interpersonal skills to work effectively in a team
• Demonstrate proficiency in writing

Question 1
Evaluate the following statements:
(a) If the future spot rates are expected to be lower than the current forward rates for the same maturities, bonds are most likely to be overvalued, according to the expectations hypothesis.

(b) Z-spread is the spread over the Treasury spot curve that a bond would trade at if it had no embedded option.

(c) If the binomial tree is correctly calibrated, it should give the same value for an optionfree bond as using the spot curve (par curve) used to calibrate the tree.

(d) If a firm's credit rating remains stable over time, the correlation its default probability over the business cycle would be reduced.

(e) Zero coupon bonds (ZCB) have duration equals to its maturity. Hence, ZCB's price sensitivity to interest rate change is the same regardless of the interest rates level.

Question 2
Contingent Immunisation Strategy is to invest in a bond such that:

• Its duration (Macaulay) matches the investment horizon, and
• Its present value matches the present value of the target value.

Given the current available return is 6%. The required terminal value (the target liability) is $2,054.46 over a 10-year investment horizon (based on yearly compounding).

Construct a bond that would immunise this target liability. Compute and verify your strategy indeed immunised the liability when the market interest rates are 3%, 6% and 9%.

Question 3
The structure of a collateralised debt obligation (CDO) is $800 million. It consists of 4 tranches:

Tranche A	60% of the structure	Coupon: Treasury Rate + 200 bps
Tranche B	20% of the structure	Coupon: LIBOR + 50 bps
Tranche C	10% of the structure	Coupon: Fixed Rate 9%
Equity Tranche	10% of the structure	-

The collateral under the structure consists of bonds with 10 years maturity and coupon 8%. Assuming there is no default in the collateral pool and ignoring all other fees and expenses, illustrate how to calculate the bond-equivalent yield and effective yield of the equity tranche,
given the 10-year Treasury rate is 4% and the LIBOR is 6.5%. (The coupons in the collateral and tranches are all semi-annually paid)

Question 4
Table A below is a simplified CMO structure with two sequential-pay tranches A and B.
Payments are made to Tranche A first then to Tranche B.

Table A

CMO Structure
Tranche	Outstanding Par Value ($'000)	Coupon Rate
A	300,000	7.50%
B	100,000	7.50%
Total:	400,000

Payments from the underlying collateral (which has a pass-through coupon rate of 7.5%) for the first 5 months, as well as months 148 to 152 are shown in Table B. These payments include scheduled payments plus estimated prepayments based on 165% PSA prepayment speed.

Table B

Month	Beginning Principal ($'000)	Principal Payment	Interest	Total Cash Flow Principal+lnterest
1	400000.000	709.923	2500.000	3209.923
2	399290.077	821.896	2495.563	3317.459
3	398468.181	933.560	2490.426	3423.986
4	397534.621	1044.822	2484.591	3529.413
5	396489399	1155.586	2478.061	3633.647
....
148	103007.499	1112.249	643.797	1756.046
149	101895.249	1102.200	636.845	1739.045
150	100793.050	1092.238	629.957	1722.195
151	99700.811	1082.363	623.130	1705.493
152	98618.448	1072.575	616.365	1688.940

With the template provided,
(a) Calculate the principal payments, ending balance, and interest payments to each tranche in the first five (5) months.

(b) Calculate the principal payments, ending balance, and interest payments to each tranche for month 148 to 152, given that at the beginning of the 148th month, there are still principal balance in Tranche A. Explain your calculation.

Question 5
Describe what securitisation is and the benefits of it.

Attachment:- Data.rar