1. Which one of the following is not a money market instrument?

[1]
A. A Treasury bill
B. A negotiable certificate of deposit
C. A Treasury bond
Answer: C

2. The bid price of a T-bill in the secondary market is: [1]

A. The price at which the dealer in T-bills is willing to sell the bill
B. The price at which the dealer in T-bills is willing to buy the bill
C. Greater than the asked price of the T-bill
Answer: B

3. A bond will sell at a discount when: [1]

A. the coupon rate is greater than the current yield and the current yield is greater than yield to
maturity
B. the coupon rate is greater than yield to maturity
C. the coupon rate is less than the current yield and the current yield is less than yield to
maturity
Answer: C

4. A bond with a put provision allows the investor to: [1]

A. Convert the bond to a specified number of shares of common stock
B. Sell the bond back to the corporation at par at a specified time period
C. Receive additional interest payments if inflation goes above a specified level
Answer: B

5. The total interest paid on a zero-coupon bond is equal to: [1]

A. the face value minus the issue price
B. the face value minus the market price on the maturity date
C. zero
Answer: A

6. Which of the following factors affect the interest rate sensitivity of a bond? [1]
I. Coupon rate
II. The level of interest rates
III. Time to maturity
IV. The yield promised on that bond
A. I and III only
B. I, II and III only
C. I and IV only
Answer: B

7. The convexity measure of a security refers to: [1]

A. Price volatility that relates maturity and coupon
B. The approximate change in price that is not explained by duration
C. The shape of the price/yield relationship
Answer: B
8. One basis point is equal to: [1]
A. 0.01 per cent
B. 0.10 per cent
C. 1.0 per cent
Answer: A

9. Which measure provides the most accurate comparison when comparing investments with
different horizons? [1]
A. arithmetic average
B. effective annual rate
C. average annual return
Answer: B

10. Efficient portfolios of n risky securities are portfolios that: [1]

A. are formed with the securities that have the highest rates of return regardless of their
standard deviations.
B. have the highest rates of return for a given level of risk.
C. are selected from those securities with the lowest standard deviations regardless of their
returns.
Answer: B

11. You have a choice of two investments. You can invest $2 000 in South Africa for 1 year
at 10.14%p.a. or you can invest your $2 000 in the US for 10%p.a. Where would you choose
to invest your money? (Ignore exchange rates). [2]
A. South Africa
B. US
C. Indifferent between South Africa and the US
Answer: C
Justification:
Change US to ‘365’ equivalent so we can compare
So,
10% x 365/360 = 10.14%
Since the rates are equivalent, we can invest in either the US or South Africa and we will earn
the same return.

12. Calculate the yield to maturity that an investor will earn if he invests in a zero coupon bond
with 3 years left to maturity currently trading at R925,600 and a face value of R1 000 000?
A. 6.88%
B. 2.24%
C. 2.61%
Answer: C
Justification:
N=3; PV=-925600; PMT=0; FV=1000000  2.6105%

13. The 1-year forward rates for the next 4 years are: 5%, 7%, 9% and 10% respectively. The
3-year spot rate is closest to? [2]
A. 7.0%
B. 8.5%
C. 9.0%
Answer: A
Justification:
1⁄
S3 = [(1.05)(1.07)(1.09)] 3 – 1 = 0.0699, i.e., 6.99%

14. You want to invest in a 10 year callable bond paying semi-annual annual coupons of
10%p.a. It has a par value of R1 000 and is callable after 2 years at 993⁄4% of par. If you
bought this bond at issue and it was called after 4 years, what is its yield to call (YTC)? [2]
A. 10.00%
B. 9.95%
C. 9.88%
Answer: B
Justification:
0.1
N=(4x2)=8; PV=-1000; PMT=( 2 )x1000=50; FV=0.9975x1000=997.50

 I/Y=(4.97379x2)=9.9476%

15. You have a 5-year, par value bond with a coupon rate of 7%, payable annually and a face
value of R1 000. If its duration is 4.4 years, its modified duration is closest to? [2]
A. 4.0 years
B. 4.2 years
C. 4.5 years
Answer: A or B
Justification:
Macaulay Duration 4.4
Modified Duration = YTM = = 4.112 years
(1+ 1.07
# of Coupon Payments)

16. You are interested in investing in a risky portfolio with an expected rate of return of 15%
and a standard deviation of 21%. The Treasury-bill rate is 6%. The standard deviation of the
Treasury-bill is closest to? [2]
A. 6%
B. 21%
C. 0%
Answer: C
Justification:
Since the Treasury-bill is a risk-free asset, its standard deviation is zero.

17. Assume there are two investments to choose from.

Investment Expected Standard
Return Deviation
A 10% 15%
B 10% 20%.
The risk averse investor would: [2]
A. Choose investment A
B. Choose investment B
C. Insufficient information to make a decision
Answer: A
Justification
A risk averse investor will require a higher return for the same level of risk or a lower level of
risk for the same return. Since A and B offer the same return, the investor will choose A since
it is the lower risk option.

18. Consider a price-weighted stock average with three stocks priced at R40, R60, and R80
per share. If the divisor is 2.5, the value of the index is closest to? [2]
A. 60
B. 72
C. 90
Answer: B
Justification:
(40+60+80)
Index Value = = 72
2.5

19. Torque Corporation is expected to pay a dividend of R1.00 in the upcoming year.
Dividends are expected to grow at the rate of 9% p.a. The risk-free rate of return is 6% and the
expected return on the market portfolio is 15%. The stock of Torque Corporation has a beta of
1.2. What is the return you should require on Torque's stock? [2]
A. 9.6%
B. 16.2%
C. 16.8%
Answer: C
Justification:
Using CAPM:
𝑅𝑖 = 𝑅𝑓 + 𝛽(𝑅𝑀 − 𝑅𝑓 ) = 6% + 1.2(15% − 6%) = 16.8%
20. You estimate that a passive portfolio (that is, one entirely invested in a risky portfolio that
mimics the JSE All Share index) yields an expected rate of return of 10% with a standard
deviation of 21%. The T-bill rate is 6%. The slope of the CML is? [2]
A. 0.29
B. 0.47
C. 0.19
Answer: C
Justification:
(10% − 6%)%
The slope of the CML = Sharpe Ratio = = 0.19
21%

21. If you have an effective yield of 12% for a 181 day investment, using the act/360 day
count. What is the yield for this investment? [3]
A. 11.662%
B. 11.823%
C. 11.169%
Answer: A
Justification:
181 360
𝑖𝑦 = ((1.12)360 − 1) x = 0.11662, 𝑖. 𝑒. , 11.662%
181

22. You bought a bond on 30 January 2010 which matures on 15 September 2020. It pays a
coupon of 12.5% semi-annually, its YTM is 14.25% and it will be redeemed at its par value of
R1 million. The dirty price of the bond is closest to? [3]
A. R890 600
B. R905 260
C. R952 560
Answer: C
Justification:
Settlement Date = 30 January 2010
Maturity Date = 15 September 2020
Coupon % = 12.5 semi-annual
Call % = 100
YTM = 14.25
90.5255878502
Price = ( ) x1000000 = R905 255.8785
100

Using your financial calculator:

4.73066298
Accrued Interest = ( ) x1000000 = R47 306.6298
100

Dirty Price = Clean Price + Accrued Interest = 905255.8785 + 47306.6298 = R952 562.51
23. The following is a list of prices for zero coupon bonds with different maturities and a par
value of R1000.

Maturity Price
(Years)
1 R943.40
2 R881.68
3 R808.88
4 R742.09
The 1-year forward rate, two years from now is? [3]
A. 7%
B. 8%
C. 9%
Answer: C
Justification:
1000 1/2
S2 = (881.68) − 1 = 0.0650, i.e., 6.50%
1000 1/3
S3 = (808.88) − 1 = 0.0733, i.e., 7.33%

(1+S3 )3 (1.0733)3
1f2 =
(1+S2 )2
−1 = (1.065)2
− 1 = 0.090, i. e. , 9%

24. You were speaking to a colleague who made the following comment, “Bonds with
embedded call options are more sensitive to interest rate changes than option-free bonds during
periods of falling interest rates”. Do you: [3]
A. agree with your colleague.
B. disagree with your colleague.
Answer: B
Justification:
Callable bonds are bonds issued with an embedded call option that allows the issuer to buy
back the bond and issue new bonds at a lower rate of interest when interest rates fall.
Since the callable bond has a fixed call price at which the bond will be bought back, bond
prices have a ceiling price equal to the call price regardless of how much interest rates fall.
In contrast, the price of option-free bonds fluctuates freely when interest rates rise or fall.
Therefore, callable bonds are less sensitive to interest rates changes when interest rates are
falling as compared to option-free bonds.
25. Consider a bond selling at par with modified duration of 10.6 years and convexity of 210.
A 2 percent increase in yield would cause the price to decrease by 21.2%, according to the
duration rule. What would be the percentage price change according to the duration-with-
convexity rule? [3]
A. -17.0%
B. -21.2%
C. 25.4%
Answer: A
Justification:
1
% Change in Price = -D*y + (2) * Convexity * (y)2
1
= -10.6 * 0.02 + (2) * 210 * (0.02)2
= -0.212 + 0.042
= -0.17, i.e., -17%

26. You have an obligation to pay R10 000 in seven years. If you expect interest rates to
change over that period, how can you ensure that your assets and liabilities remain matched?
[3]
A. Invest in a seven year bond that pays annual coupons of R2 000.
B. Invest in a seven year, zero-coupon bond that has a face value of R10 000.
C. Invest in a seven year, 10% annual coupon paying bond with a par value of R10 000.
Answer: B
Justification:
When the duration of your assets is equal to the duration of your liabilities, you are immunized,
i.e., any change in interest rates will result in the same percentage change in the value of the
assets and the liabilities.
The duration of Liability is 5 years since you have to pay R10 000 in 5 years’ time.
To match the duration of your liabilities, you can invest in an asset that has a duration of 5
years. The only asset that offers you that is the zero-coupon bond, since the duration of a zero
coupon bond equals its term. Coupon paying bonds durations are less than there terms.
Therefore, you should invest in the seven year zero-coupon bond with a face value of R10 000.

27. As a reward for doing well at UJ, your parents give you R1 million. As an Investment
Management student you decide to use the knowledge you have gained so far and invest your
reward in the Money Market.

You have three options, which the bank quotes you:

I. A BA at a rate of 10.40% for a period of 91-days
II. An investment in a 92-day Treasury bill (TB) at a rate of 10.25%
III. An investment of a 45-day NCD at an annualised rate of 11.5%
Rank the three investments from best to worst. [3]
A. I, II, III
B. I, III, II
C. III, I, II
Answer: C
Justification:
Bankers’ Acceptance (BA)
MV = R 1000 000
91
Price = 1000000 – (1000000x1.1040x365) = R974 071.23
(Ending Value − Beginning Value)
HPY = [ ] x 100
Beginning Value
(1000000−974071.23)
=[ ] x 100
974071.23
= 2.6619%
365⁄ )
EAY = [1 + 0.026619]( 91 − 1= 0.1111; i.e., 11.11%

Treasury Bill (TB)

MV = R 1000 000
92
Price = 1000000 – (1000000x1.1025x365) = R974 164.38
(Ending Value − Beginning Value)
HPY = [ ] x 100
Beginning Value
(1000000−974164.38)
=[ ] x 100
974164.38
= 2.6521%
365⁄ )
EAY = [1 + 0.026521]( 92 − 1= 0.1107; i.e., 11.07%

Negotiable Certificate of Deposit (NCD)

45
MV = R 1000 000x[1+(0.1150x365)] = R1 014 178.08
Price = 1000000

(Ending Value − Beginning Value)

HPY = [ ] x 100
Beginning Value
(1014178.08−1000000)
=[ ] x 100
1000000
= 1.4178%

365⁄ )
EAY = [1 + 0.014178]( 45 − 1= 0.1210; i.e., 12.10%

Using the effective annual yield (EAY) for each investment, they rank from best to worst as
follows: NCD, BA, TB, i.e., III, I, II.
28. Suppose an investor wishes to combine a T-bill, which offers the risk free rate of 4.1%, and
XYZ Corporation. XYZ has an expected return of 11% and a standard deviation of 22%. The
portfolio is to be comprised of 50/50 split between the T-bill and XYZ. If the covariance
between returns on the T-bill and XYZ is zero, calculate the portfolio expected return and
standard deviation. [3]
𝐸(𝑅𝑃 ) 𝜎𝑃

A. 15.1% 22%
B. 7.6% 11%
C. 15.1% 11%

Answer: B
Justification:
Expected return is:
ERP   0.5(4.1)  0.5(11)  7.55%

The standard deviation of the risk free rate is assumed to be zero. Therefore, the standard
deviation of the portfolio is then:

 RP   0.5 2  22 2  0.25  484  11.0%

Use the following information to answer questions 29 and 30.

You manage a risky portfolio with an expected rate of return of 17% and a standard deviation
of 27%. The Treasury-bill rate is 7%.

29. Suppose that your client decides to invest in your portfolio a proportion y of the total
investment budget so that the overall portfolio will have an expected rate of return of 15%.
What is the proportion y? [3]
A. 20%
B. 50%
C. 80%
Answer: C

Justification:
Mean return on portfolio = Rf + (Rp - Rf)y
= 7% + (17% - 7%)y = 7% + 10%y

If the mean of the portfolio is equal to 15%, then solving for y we will get:
15% = 7% +10%y
y = (15% - 7%)/10%
y = 0.8

Therefore, in order to obtain a mean return of 15%, the client must invest 80% of total funds in
the risky portfolio and 20% in Treasure bills.
30. Further suppose that your risky portfolio includes the following investments in the given
proportions: Share A (27%), Share B (33%), and Share C (40%). What are your client’s
investment proportions in your three shares and the T-bill fund is closest to? [3]
Treasury Bill Share A Share B Share C

A. 20% 22% 26% 32%

B. 50% 14% 16% 20%
C. 80% 5% 7% 8%

Answer: A
Justification:
Investment proportions of the client’s funds:
• 20% in T-bills
• 0.8 x 27% = 21.6% in Stock A
• 0.8 x 33% = 26.4% in Stock B
• 0.8 x 40% = 32.0% in Stock C