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Provide the correct answers to the following set of questions: 1) You are given the market price of a risky corporate bond. Which of the following is true? a) The promised yield is greater than the expected yield b) The expected yield is greater than the promised yield c) The expected yield is equal to the promised yield d) Any of the above may be true. The answer depends on the price and coupon rate of the bond.

2) Bond A is both convertible and callable. Compared to bond B, an identical bond with no options attached, Bond A has: a) A higher price and a lower yield b) A higher price and higher yield c) A lower price and a lower yield d) A lower price and a higher yield e) Not enough information given to make any of the above statements

3) Bond A is convertible and bond B is callable. Otherwise the bonds are identical. Compared to bond B, Bond A has: a) A higher price and a lower yield b) A higher price and higher yield c) A lower price and a lower yield d) A lower price and a higher yield e) Not enough information given to make any of the above statements

4) Consider an American and a European option with identical maturities written on the same stock and with identical strike prices. Analvst A prices the American option with a binomial tree and uses a volatility of 16%. Analyst B prices the European option with a binomial tree and uses a volatility of 15%. Both analysts use the same risk free rate. Which of the following is true: a) The estimated price of the European option will be greater than the price of the American option b) The estimated price of the European option will be less than the price of the American option c) The estimated price of the European option will be equal to the price of the American option d) Not enough information given to make any of the above statements.

5) A bank estimates that its equity value increases when interest rates increase. To stabilize the value of its equity to interest rate changes, in the future the bank should: a) Make longer term loans b) Take longer term deposits c) Make shorter term loans d) Take shorter term deposits e) Both b) and c) will stabilize the value of its equity f) Both a) and d) will stabilize the value of its equity

6) Suppose a bank makes mortgage loans with 1-year maturities and funds them with 5-year CD deposits. Which of the following is true? a) The bank would worry about interest rates going down and could reduce this risk by changing its loan mix to shorter term loans in the future b) The bank would worry about interest rates going up and could reduce this risk by changing its loan mix to longer term loans in the future c) The bank would worry about interest rates going up and could reduce this risk by changing its loan mix to shorter term loans in the future d) The bank would worry about interest rates going down and could reduce this risk by changing its loan mix to longer term loans in the future

7) You are a speculator and believe the price of jet fuel will fall. You would most likely buy: a) A cash settled put b) A physically settled put c) A cash settled call d) A physically settled call

8) You just purchased an annual-pay bond with a maturity of 10-years. The purchase price of the bond is $100 and the coupon is 8.0%. At the end of the first year, its yield is 10.0%. At the end of the second year, it's yield is 6.0%. You sell the bond at the end of the second year, just after the coupon payment. Your return (IRR) for the two year holding period is: a) IRR < 6% b) 6% <= IRR <= 8% c) IRR > 8% d) Not enough information given to make any of the above statements

9) When a Treasury bond's market price falls, its yield rises because: a) Its cash flows decrease causing the yield to rise b) Its cash flows increase causing the yield to rise c) Neither a) or b) is true

10) In the development of the binomial model, the number of shares in the portfolio of the stock/option portfolio is set so that the payoff of the option is the same in the up-state as in the down-state. a) True b) False

11) A straddle has a strike price of $40 and a strangle has strike prices of $37 and $43. The current stock price is $40. All options are European, have the same maturity and the same underlying stock. Which of the following is true? a) The straddle costs less to purchase than the strangle because the strangle options are more out of the money b) The straddle costs more to purchase than the strangle because the strangle options are more out of the money c) The straddle costs less to purchase than the strangle because the strangle options are more in the money d) The straddle costs more to purchase than the strangle because the strangle options are mi in the money

12) You just purchased an annual-pay Treasury coupon bond with a maturity of 10-years. The purchase price of the bond is $100 and the coupon is 8.0%. At the end of the first year, its yield is 10.0%. At the end of the second year, it's yield is 6.0%. and remains at 6.0% for the life of the bond. You hold the bond until it matures. Your return (IRR) is: a) IRR = 6% b) IRR = 8% c) IRR = 10% d) Not enough information given to make any of the above statements

13) An airline wishes to hedge the price of jet fuel and enters into a cash settled call option wi a strike price of K. At option maturity the market price of jet fuel is St. At maturity the airline: a) Receives K- ST from the option and purchases the jet fuel in the market for ST b) Receives K - Sr from the option and purchases the jet fuel in the market for K c) Receives Sr - K from the option and purchases the jet fuel in the market for St d Receives Sr - K from the option and purchases the jet fuel in the market for K

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