Centre for Professional Education

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Immunization

Question No 1

Mr.X has to pay Rs.10,000 after 5 years from today. He wants to fund this
obligation today only. On enquiry he gathers that a company has come out with
a initial public offer of 8% Bonds (face value Rs.100) maturity 6 years interest
on such bonds is payable annually. He invests Rs.6,800 in the offer. What
amount he will accumulate if market interest rate continues to be 8%? What if
the market interest falls to 6% or rises to 10% immediately after his investment
in the bonds? Do you have any offer to comment on these amounts?

Question No 2

A company has to pay Rs. 12,411 after 6 years from today. Current market
interest rate is 10%. It wants to fund this obligation today only. The following
two bonds provide 10% return:
1) Zero coupon bond maturity :4 years
2) 10% Irredeemable bond
Suggest bond portfolio which is immunized against the systematic risk. What
amount you will receive at the end of 6 years by redeeming this portfolio?
What if the current market interest changes to 11% at the end of 2nd year?

Question No 3

A company has to pay Rs.10m after 6 years from today. The company wants to
fund this obligation today only. The current interest rate in the market is 8%.
Two zero coupon bonds are traded in the market on the basis of 8% YTM (a)
maturity 5 years and (b) maturity 7 years. Suggest the interest rate risk
immunized investment plan. Calculate the total amount to be received from the
investments in following three cases; (i) market interest remains unchanged
throughout the period of 6 years (ii) market interest rate declines to 6% 2 years
after the investment was made and (iii) market interest rate rises to 10%
immediately after the investment was made.

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Centre for Professional Education
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Question No 4

A Company has to pay Rs.1 m at the end of each year for 3 years. The company
wants to fund this obligation today only when current interest rate in the market
is 10%. Two zero coupon bonds are being traded in the market (i) 1 year
maturity and (ii) 5 years maturity. Suggest the interest rate risk immunized
investment plan?

Question No 5

Mr. A will need Rs. 1,00,000 after two years for which he wants to make a
one-time necessary investment now. He has a choice of two types of
bonds. Their details are as below:

Bond X Bond Y

Face value Rs. 1,000 Rs. 1,000

Coupon 7% payable annually 8% payable annually

Years to maturity 1 4
Current price Rs. 972.73 Rs. 936.52
Current yield 10% 10%

Advice Mr. A whether he should invest all his money in one type of bond or
he should buy both the bonds and, if so, in which quantity? Assume that
there will not be any call risk or default risk.

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