Yankee Inc. has sold the Super Coupon Absolute Marvel (SCAM) security to raise new funds. Unlike ordinary bonds, it pays no par value/face value at the end of its life. It only pays coupons every year as follows: $100(1 + 0.05) at the end of year one, $100(1 + 0.05)2 at the end of year two, and so on. This security lasts for 4 years (i.e., makes 4 payments). The current interest rate is 5% for all maturities.

What is the duration today of SCAM?

• 1.5
• 2
• 2.5
• 2.75
• 3.25

References

Lo, Andrew W.; Wang, Jiang. "MIT Sloan Finance Problems and Solutions Collection Finance Theory I" (PDF). alo.mit.edu. Retrieved November 30, 2023.

Solution: C

Duration = (1 + 2 + 3 + 4)/4 = 2.5 years

References

Lo, Andrew W.; Wang, Jiang. "MIT Sloan Finance Problems and Solutions Collection Finance Theory I" (PDF). alo.mit.edu. Retrieved November 30, 2023.