Relationships between the duration and interest rates, coupon payments and maturity

a) All else equal, when the maturity of a bond lengthens, the duration rises as well.

b) All else equal, when interest rates rise, the duration of a coupon bond fall.

c) The higher is the coupon rate on the bond, the shorter is the duration of the bond

d) Duration is additive: the duration of a portfolio of securities is the weighted-average of the durations of the individual securities, with the weights equaling the proportion of the portfolio invested in each

e) All else being equal the longer the term to maturity, the longer its dur

19) Factors that affect the demand and supply for assets;

Shifts in the demand:

a) Wealth b) Expected return on bonds relative to altern assests. c) Risk of bonds relative to alter assets d) Liquidity

b) In supply: a) Expected profitability of investment opportunities b) Expected Inflation c) Government’s budget

What is the term structure of interest rates: yield curves

A bond’s term to maturity also affects its interest rate and the relationship among interest rates on bonds with different terms of maturity called term structure of interest rates.

21) Pure expectation theory (major statements)- explains 1 and 2, but not 3

Bonds of a deiffrent maturities are perfect substitudes Re on bonds of diff-t maturities are equal.

22) Market segmentation theory (major statements)- explains 3, but not 1 and 2

Bonds of diff-t maturities are not substitutes of all markets are completely segmented interest rate at each maturity are determined separately.

23) Liquidity premium theory (major statements)- Solution: Combine features of both Pure Expectations Theory and Market Segmentation Theory to get Liquidity Premium Theory and explain all facts.