Question
Question 3(15 marks) An investor holds 100,000 units of a bond whose features per bond are summarized in the following table. She wishes to be
Question 3(15 marks)
An investor holds 100,000 units of a bond whose features per bond are summarized in the following table. She wishes to be hedged against a rise in interest rates.
Maturity Coupon Rate YTM Mod. Duration Price
5 Years 9.5% 7% 3.9679 $110.2505
Characteristics of the hedging instrument, which is here a bond, are as follows:
Maturity Coupon Rate YTM Mod. Duration Price
6 Years 10% 8% 4.4884 $109.2458
Coupon frequency and compounding frequency are assumed to be annual.
YTM stands for yield to maturity.
Assume the following relationship between the yield changes (y ) of portfolio and hedging instrument: portfolio hedging instrument y y 1.24
a. What is the quantity of the hedging instrument that the investor has to sell or buy?
b. We suppose that the YTM of portfolio increases instantaneously by 0.1%.
i) What happens if the bond portfolio has not been hedged?
ii) And if it has been hedged?
Step by Step Solution
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Step: 1
To hedge against a rise in interest rates the investor needs to use a hedging instrument with specific characteristics We will determine the quantity of the hedging instrument that the investor needs ...Get Instant Access to Expert-Tailored Solutions
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Step: 2
Step: 3
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