ЁЯУв Too many exams? DonтАЩt know which one suits you best? Book Your Free Expert ЁЯСЙ call Now!

    Question

    A pension-oriented fund holds callable bonds which

    exhibit negative convexity as rates fall. When rates dropped 1%, bond price only increased 0.8% instead of the 1.2% you'd expect on positive convexity. What happened and how to respond?
    A Reinvest proceeds Correct Answer Incorrect Answer
    B Purchase discount bonds Correct Answer Incorrect Answer
    C Buy interest rate caps Correct Answer Incorrect Answer
    D Sell callable bonds to reduce risk Correct Answer Incorrect Answer
    E No action Correct Answer Incorrect Answer

    Solution

    Callable bonds limit price upside (negative convexity). To reduce mismatch and restore convexity, the fund should sell callable bonds and replace with non-callables or use caps to mitigate imbedded options.

    Practice Next
    More Previous year papers Questions
    ask-question