June Klein, CFA, manages a $100 million (market value) U.S. government bond portfolio for an institution. She anticipates a small parallel shift in the yield curve and wants to fully hedge the portfolio against any such change

Chapter 21: Problems 3(a-e), 4(a-c), 6(a-c), 9(a-b), 10(a-c), and 11(a-c)
3. June Klein, CFA, manages a $100 million (market value) U.S. government bond portfolio for an institution. She anticipates a small parallel shift in the yield curve and wants to fully hedge the portfolio against any such change.
a. Discuss two reasons for using futures rather than selling bonds to hedge a bond portfolio. No calculations required.
b. Formulate Klein's hedging strategy using only the futures contract shown. Calculate the number of futures contracts to implement the strategy. Show all calculations.
c. Determine how each of the following would change in value if interest rates increase by 10 basis points as anticipated. Show all calculations.
(1) The original portfolio
(2) The Treasury bond futures position
(3) The newly hedged portfolio
d. State three reasons why Klein's hedging strategy might not fully protect the portfolio against interest rate risk.
e. Describe a zero-duration hedging strategy using only the government bond portfolio and options on U.S. Treasury bond futures contracts. No calculations required
4. A bond speculator currently has positions in two separate corporate bond portfolios: a long holding in Portfolio 1 and a short holding in Portfolio 2. All the bonds have the same credit quality. Other relevant information on these positions includes:
Treasury bond futures (based on $100,000 face value of 20-year T-bonds having an 8 percent semi-annual coupon) with a maturity exactly six months from now are currently priced at 109–24 with a corresponding yield to maturity of 7.081 percent. The “yield betas” between the futures contract and Bonds A, B, and C are 1.13, 1.03, and 1.01, respectively. Finally, the modified duration for the T-bond underlying the futures contract is 10.355 years.
a. Calculate the modified duration (expressed in years) for each of the two bond portfolios. What will be the approximate percentage change in the value of each if all yields increase by 60 basis points on an annual basis?
b. Without performing the calculations, explain which of the portfolios will actually have its value impacted to the greatest extent (in absolute terms) by the shift yields. (Hint: This explanation requires knowledge of the concept of bond convexity.)
c. Assuming the bond speculator wants to hedge her net bond position, what is the optimal number of futures contracts that must be bought or sold? Start by calculating the optimal hedge ratio between the futures contract and the two bond portfolios separately and then combine them.
a. Calculate the modified duration (expressed in years) for each of the two bond portfolios. What will be the approximate percentage change in the value of each if all yields increase by 60 basis points on an annual basis?
b. Without performing the calculations, explain which of the portfolios will actually have its value impacted to the greatest extent (in absolute terms) by the shift yields. (Hint: This explanation requires knowledge of the concept of bond convexity.)
c. Assuming the bond speculator wants to hedge her net bond position, what is the optimal number of futures contracts that must be bought or sold? Start by calculating the optimal hedge ratio between the futures contract and the two bond portfolios separately and then combine them.
6. As a relationship officer for a money-center commercial bank, one of your corporate accounts has just approached you about a one-year loan for $1,000,000. The customer would pay a quarterly interest expense based on the prevailing level of LIBOR at the beginning of each three-month period. As is the bank's convention on all such loans, the amount of the interest payment would then be paid at the end of the quarterly cycle when the new rate for the next cycle is determined. You observe the following LIBOR yield curve in the cash market:
90-day LIBOR 4.60%
180-day LIBOR 4.75
270-day LIBOR 5.00
360-day LIBOR 5.30
a. If 90-day LIBOR rises to the levels “predicted” by the implied forward rates, what will the dollar level of the bank's interest receipt be at the end of each quarter during the one-year loan period?
b. If the bank wanted to hedge its exposure to failing LIBOR on this loan commitment, describe the sequence of transactions in the futures markets it could undertake.
c. Assuming the yields inferred from the Eurodollar futures contract prices for the next three settlement periods are equal to the implied forward rates, calculate the annuity value that would leave the bank indifferent between making the floating-rate loan and hedging it in the futures market and making a one-year fixed-rate loan. Express this annuity value in both dollar and annual (360-day) percentage terms.
9. Alex Andrew, who manages a $95 million large-capitalization U.S. equity portfolio, currently forecasts that equity markets will decline soon. Andrew prefers to avoid the transaction costs of making sales but wants to hedge $15 million of the portfolio's current value using S&P 500 futures.
Because Andrew realizes that his portfolio will not track the S&P 500 Index exactly, he performs a regression analysis on his actual portfolio returns versus the S&P futures returns over the past year. The regression analysis indicates a risk-minimizing beta of 0.88 with an R2 of 0.92.
Futures Contract Data
S&P 500 futures price 1,000
S&P 500 index 999
S&P 500 index multiplier 250
a. Calculate the number of futures contracts required to hedge $15 million of Andrew's portfolio, using the data shown. State whether the hedge is long or short. Show all calculations.
b. Identify two alternative methods (other than selling securities from the portfolio or using futures) that replicate the strategy in Part a. Contract each of these methods with the futures strategy.
10. The treasurer of a middle market, import-export company has approached you for advice on how to best invest some of the firm's short-term cash balances. The company, which has been a client of the bank that employs you for a few years, has $250,000 that it is able to commit for a one-year holding period. The treasurer is currently considering two alternatives: (1) invest all the funds in a one-year U.S. Treasury bill offering a bond equivalent yield of 4.25 percent, and (2) invest all the funds in a Swiss government security over the same horizon, locking in the spot and forward currency exchanges in the FX market. A quick call to the bank's FX desk gives you the following two-way currency exchange quotes.
Click Here For More Details on How to Work on this Paper......
Need a Professional Writer to Work on this Paper? Click Here and Get this Essay Done ………