$\begin{array}{lccc}
\text { Securities (at par) } & \text { \$ 250 Deposits}& \$975 \
\text { Loans (at par)} & \text { \$ 760 Capital} & \$ 35
\end{array}$
If the loan portfolio consists of a five-year,10 percent annual coupon loan selling at par,what is the market,or economic,value of capital if interest rates increase 1 percent?

Question

$\begin{array}{lccc}
  \text { Securities (at par) } & \text { \$ 250  Deposits}& \$975  \
 \text { Loans (at par)} &    \text {  \$ 760  Capital} & \$ 35
\end{array}$
 If the loan portfolio consists of a five-year,10 percent annual coupon loan selling at par,what is the market,or economic,value of capital if interest rates increase 1 percent?

Quizplus · Accepted Answer

The market value of the loan will decrease when interest rates increase. The new market value of the loan can be calculated using the present value of the remaining cash flows at the new interest rate. The decrease in the loan's market value will reduce the economic value of capital. Calculating this, the economic value of capital becomes $7 million.

If the Loan Portfolio Consists of a Five-Year,10 Percent Annual