1) Today is Mar 16, 2011. Given the following information, determine which US TBond is currently “cheapest to deliver” (CTD, i.e. “most profitable to carry arbitrage”) on the Jun '11 US TBond futures contract - the 6.125s of Nov 2029 that have a stated price of 127-02 (and conversion factor of 1.0136) or the 6.375s of Aug 2027 that have a stated price of 129-18+ (and conversion factor, CF, of 1.0409). Note that the + in the stated price indicates an extra half 32^nd; e.g., 129-18+ = 129 + 18.5/32 =129.578125. Assume that the TBonds will be delivered on 06/30/11 and the yield on the US TBill that matures on this date is 0.08%. The Jun '11 US TBond futures price is 122-16. Is a carry arbitrage expected to be profitable for the CTD? Since the CFs are given, you can overwrite the CF formulae given in the spreadsheet with the values given above. Write out, but do not solve, the equations that determine both TBonds’ carry arbitrage IRRs.

2) You have been carrying an equity portfolio that has been paying you a 1.89% annual dividend income rate. The portfolio is identical to that for the S&P500 Index in composition (i.e. they have the same stocks and weights). Its value is $1,000,000 times the index’s value. On 2/23, you hedged your portfolio value by going short 3900 Jun '11 S&P500 Index futures contracts. The futures contract is for $250 x the index value. Assume the below data.

			(1 week to maturity) US	DJIA
Date	Spot Price	Futures Price	TBill Annual % Yield	Price
2/23/11	1307.40	1300.60	0.105%	12105.8
3/2	1308.44	1300.80	0.089%	12066.8
3/9	1320.02	1310.60	0.066%	12213.1
3/16	1256.88	1253.90	0.2%	11613.3

For the 2/23/11-3/16 period, calculate the weekly: (a) per unit carry a cost, (b) per unit spot price change, (c) per unit spot profit, (d) total spot market profit, (e) per unit hedging instrument price change, (f) total futures market profit, and (g) total hedge profit. Using these answers, calculate the: (h) ex-post HR_Regr, (i) ex-post maximum Hedging-Effectiveness (HE), and (j) actual HE for the period. Was this a good hedge? Explain. Also, calculate the hedging instrument’s beta for the period using the DJIA as the “market portfolio’s” proxy.

Answer rating: 100% (QA)

1 The 6125s of Nov 2029 is currently the CTD on the Jun 11 US TBond futures contract A carry arbitrage is not expected to be profitable for the CTD so... View the full answer