- Type your answers in black color.
- Answers should be typed in Ariel, font size 12, 1.5 spacing and justified
- Graphs can be drawn or photographed.
- Your Student ID must be mentioned on every answer sheet.
- Use the correct numbering as on the question paper
- At the end of the exam, submit the answer sheets through blackboard.
- The due date is not waiting for the final day.
- You are not allowed to discuss your answers with anyone, and your analysis/comments need to correspond to your calculations
- Plagiarism offenses apply as per student handbook
Read the case below and answer the questions that follow
Mr. Adriel Lumko is a risk-averse Financial Manager for FUN, a mid-sized company listed on the Botswana Stock Exchange. He was once caught off guard in an effort to invest excess cash that was to be used later in an expansion project. Three years ago, Mr. Adriel Lumko bought five-year bonds only to see interest rates rise, wiping off a bigger chunk of the investment just when he was about to liquidate his investment to channel the money to the planned project. His superior, Ms. Finesse Ndlovu, was not pleased. Now Adriel is in a similar situation; the company has P10 million in excess that will be required in 3 years’ time and wants to invest this money in bonds. Instead of making his own analysis, Mr. Adriel can only invest if a trusted and reputable analyst can make a recommendation. This decision is important for Mr. Adriel because it has implications for his career. He approached you as an investment analyst schooled at Botho University to decide on the Treasury securities issued by the Botswana government that he can invest in.
The securities have a par value of P1 000
In the meeting between you and Adriel, you agreed to base your decisions on the current Botswana yield curve given in Table 2.
- Compute the clean price of the remaining two bonds, assuming they are held to maturity. (10 marks)
- Illustrate how you can arrive at the dirty price of the bond if trading can take place on any other day other than coupon date and state three pieces of information that can be added to accurately compute the dirty price. (5 marks)
- Part A
Perform a return analysis for the three bonds by calculating annualized holding period yield (A.HPY). Account for reinvestment of coupons using the spot rates provided. (11 marks)
Explain why A.HPY is suitable than yield to maturity (YTM) in this scenario. (5 marks)
Perform a risk analysis for the three bonds by calculating Macaulay duration. Note you first need to calculate YTM using an acceptable method in the field of fixed income and the prices you obtained in (1). (22 marks)
Explain why duration measures could not be an appropriate measure in this scenario. (10 marks)
- To help you answer (a) &(b) below, you may need to summarize your analysis 1, 3, and 4 in the table as provided below.
Using your knowledge of fixed income, the impact of COVID 19 markets and your answers in question (3) and (4), recommend with reasons, one government bond that Mr. Adriel Lumko, a risk-averse investor, must buy at the expense of the other two bonds using his P10 million under the following circumstances:
- If you predict that in the next coming years from today, COVID-19 effects will cause inflationary pressure in the Botswana economy. (10 marks)
- If you predict that in the next coming years from today, COVID-19 effects will cause deflationary pressure in the Botswana economy. (10 marks)
- Suppose BW2020-3 was issued by an airline company listed on the BSE.
- Illustrate how your answer in (1) would change using your hypothetical figures. (7 marks)
- Explain with an appropriate model (formula/graph) why your price in (6a) is different from that in (1). (10 marks)
End of Examination