Problem 1 (10
The following table depicts current market conditions (assume annual compounding):
Year Current spot rates () Implied 2-year forward rate (,)
6 4.00% N/A
7 4.10% N/A
Calculate implied 2-year forward rates (3,2, 4,2, 5,2).
According to your analysis on the market condition, propose a strategy that goes long a zero coupon bond and goes short another zero coupon bond. For simplicity, use only zero coupon bonds.
According to (b), we will go long a m-year zero coupon bond and go short a n-year zero coupon bond. From mathematical analyses, we already know that the m-year zero coupon bond outperforms the n-year zero coupon bond whenever the forward rate between the m- and after 1 year. Here are our scenarios:
Current State % %
Steepening % + 0.5 %
Parallel Shift + 0.3 % + 0.3 %
Flattening + 0.3 % + 0.1 %
In which situation(s) do we make a profit from our strategy?
Problem 2 (24
Let us assume that there are 5 stocks and 5 bonds available in the market. The historical data are reported in the attached Excel files. You are a wealth manager, and you should propose a portfolio by using the given asset classes.
After a quick interview, you obtain some information about your client:
Your client has an asset of USD 1 million with a liability of USD 500,000 (the present value).
The maturity of the liability is 20 years with the yield to maturity of 4%.
The clients investment horizon is 3 years.
Regarding a bond portfolio, the client wants to hedge against a change in interest rates.
Regarding stock investment, your client wants to choose only one stock (because of, for example, huge transaction costs).
Our analysis is based on status quo financial analysis. Thus, there are several strong assumptions:
Assume that the is expected to be 3% constantly.
All the coupon payments are reinvested at 5%.
Coupon payment dates of all the bonds are 06/30/2002, 12/31/2002, 06/30/2003, 12/31/2003, 06/30/2004, and 12/31/2004.
Stock dividends and bond coupons are paid semi-annually. Note that the dividend and coupon rates are quoted on an annual basis: in other words, you should divide the coupon rate (dividend rate) by 2 when you compute the income.
An immunization portfolio is constructed on the offering dates of the bond (02 Jan
Tax is not considered here.
Using what we have learned, propose an asset allocation strategy. Specifically,
Propose the weight on each asset class
Calculate the return on the aggregate portfolio
Discuss risk embedded in the portfolio
Evaluate your portfolio performance using several measures
Problem 3 (16
In the bond market, available securities are provided as follows:
Maturity (years) Position name YTM (%) Coupon (%)
2 Short-wing 4.5 5
5 Body 5.5 5
10 Long-wing 6 5
Now, consider the following strategy
Maturity (years) Quantity (in USD Face Value)
In other words, the strategy purchases $ X1-par 2-year bond and $ X2-par 10-year bond, while it sells short $10,000-par 5-year bond.
A fifty-fifty butterfly strategy is to adjust the weights X1 and X2 so that the transaction has a zero dollar duration and the same dollar duration on each wing, short and long. The dollar duration of each wing then equals the fifty percent of the dollar duration of the body. Note that this strategy is, however, not cash neutral (i.e., you do not need to consider value matching). Determine X1 and X2 of this strategy.
Do you think this strategy will make a profit after a year from now (2022~2023)? Provide a reasonable scenario based on the real market situation nowadays, and approximate the profit.
Delivering a high-quality product at a reasonable price is not enough anymore.
That’s why we have developed 5 beneficial guarantees that will make your experience with our service enjoyable, easy, and safe.
You have to be 100% sure of the quality of your product to give a money-back guarantee. This describes us perfectly. Make sure that this guarantee is totally transparent.Read more
Each paper is composed from scratch, according to your instructions. It is then checked by our plagiarism-detection software. There is no gap where plagiarism could squeeze in.Read more
Thanks to our free revisions, there is no way for you to be unsatisfied. We will work on your paper until you are completely happy with the result.Read more
Your email is safe, as we store it according to international data protection rules. Your bank details are secure, as we use only reliable payment systems.Read more
By sending us your money, you buy the service we provide. Check out our terms and conditions if you prefer business talks to be laid out in official language.Read more