The following information is about current spot rates for Second Duration Savings' assets (loans) and liabilities (CDs). All interest rates are fixed and paid annually $$\begin{array} { | c | c | }
\hline \text { Assets } & \text { Liabilities } \
\hline \text { 1-year loan rate: } 7.50 \text { percent } & \text { 1-year CD rate: } 6.50 \text { percent } \
\hline \text { 2-year loan rate: } 8.15 \text { percent } & \text { 2-year CD rate: } 6.65 \text { percent } \
\hline
\end{array}$$
-If rates do not change, the balance sheet position that maximizes the FI's returns is
A)a positive spread of 15 basis points by selling 1-year CDs to finance 2-year CDs.
B)a positive spread of 100 basis points by selling 1-year CDs to finance 1-year loans.
C)a positive spread of 85 basis points by financing the purchase of a 1-year loan with a 2-year CD.
D)a positive spread of 165 basis points by selling 1-year CDs to finance 2-year loans.
E)a positive spread of 150 basis points by selling 2-year CDs to finance 2-year loans.

Question

The following information is about current spot rates for Second Duration Savings' assets (loans) and liabilities (CDs). All interest rates are fixed and paid annually $$\begin{array} { | c | c | } 
\hline \text { Assets } & \text { Liabilities } \
\hline \text { 1-year loan rate: } 7.50 \text { percent } & \text { 1-year CD rate: } 6.50 \text { percent } \
\hline \text { 2-year loan rate: } 8.15 \text { percent } & \text { 2-year CD rate: } 6.65 \text { percent } \
\hline
\end{array}$$
-If rates do not change, the balance sheet position that maximizes the FI's returns is
A)a positive spread of 15 basis points by selling 1-year CDs to finance 2-year CDs.
B)a positive spread of 100 basis points by selling 1-year CDs to finance 1-year loans.
C)a positive spread of 85 basis points by financing the purchase of a 1-year loan with a 2-year CD.
D)a positive spread of 165 basis points by selling 1-year CDs to finance 2-year loans.
E)a positive spread of 150 basis points by selling 2-year CDs to finance 2-year loans.

Quizplus · Accepted Answer

A positive spread would mean that the assets (loans) generate more interest income than the liabilities (CDs) incur interest expenses. Selling 1-year CDs at 6.5% and using the proceeds to fund 2-year loans at 8.15% would result in a positive spread of 165 basis points (8.15% - 6.5% - 0.01%). This is the highest positive spread option among the choices given, maximizing the FI's returns.

The Following Information Is About Current Spot Rates for Second