Flashcards in Market Data Deck (8)
Securities with smaller cash flows and longer maturities have larger percent price changes when interest rates change.
Rate sensitive - High
Securities with larger cash flows and shorter maturities have smaller percent price changes when interest rates change.
Rate sensitive - Low
Securities with longer maturities and lower coupons have higher interest rate risk, so they would exhibit larger price decreases in a ___ rate envirornment
If consensus forecasts predict rising interest rates, how could you reduce the interest rate risk in your securities
Decrease maturities of securities held.
primarily long term measure of interest rate risk.
EVE focuses on how the capital value of a bank changes in response to changes in interest rate environment. Similar to income simulation modeling, economic value results from different rate scenarios are compared to base case to measure the level of interest rate risk exposure faced by the bank. One advantage of the EVE model is that it captures the long term effect of interest rate risk
advantage of leverage
interest payments are tax deductible and debt increases the rate of return on equity.
the tax deduction lowers the effective cost of borrowing will below the stated rate of interest on the debt instrument. Leverage also increases the rate of return on equity as this assumes that borrowed funds will be invested at a higher rate of return than the interest paid on the debt. Theoretically, the return on investment is higher because the leveraged company can deploy more assets profitably with less equity
double leverage- BHC borrows money and injects it into the subsidiary as equity
the proceeds of parent company long-term debt may be advanced to the banking subsidiaries as debt of invested in banking subs as equity. When such proceeds are invested in subs as equity, a condition of double leverage is said to exist since the increase in the sub's bank's capital base will allow the bank to increase its own borrowings. In effect, the parent's capital injection which was funded by debt, provides the bank with greater debt capacity, thereby allowing the bank to borrow additional funds on its own