Which of the following regarding bond immunization is NOT correct? a. Bond immunization is to gaurantee...

Which of the following regarding bond immunization is NOT correct?

a. Bond immunization is to gaurantee an interest rate for a desired period of investment horizon.

b. It is very easy to achieve immunization using a single bond. Use of portfolio of bonds is not often needed.

c. To achieve immunization, it is important to match your investment horizon with the duration of your bond or portfolio of bonds.

d. When your porfolio is immunized, any change of interest rates will NOT impact your realized return over the investment horizon.

Expert Solution

Bond imminization is a process used to immunise the bond against changes in interest rates. If interest rate moves up, the price of the bond falls hence there is interest rate risk in the bond. Also the duration of the bond might go for a toss. Hence company might make some adjustments to portfolio to immunise the company from such risk. There are various methods:

Cash flow matching: We try to invest in bonds such that our cash inflows are matched with the expected cash outflow on liability. This method helps in immunisation against interest rate risk
Duration matching: We match the duration of bond to the duration of liabilities. This method helps in such a way that change in interest rate will effectively have a same effect on the duration of assets and liabilities and we are still protected with the interest fluctuations.

As per the explanation, bond immunisation guarantee an interest rate desired on portfolio. Mostly multiple bonds that is a portfolio of bond is required to immmunise bond.

Wrong Option is option B

jeff jeffy answered 1 year ago

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