Suppose you have an index that is based upon 3 bonds: 1) $100mm of a 5-year maturity zero coupon bond; 2) $100mm of a 10-year zero coupon bond; and 3) $50 mm of a 20-year zero coupon bond. You are hired in as the new Portfolio Manager. You find that the portfolio owns $75 million of a 20-year zero coupon bond, $75 million of the 10-year zero coupon bond, and $75 million of the 5-year zero coupon bond. You also have $25 mm in cash. Market yields are 2.5%, 2.75%, and 3% for 5, 10, and 20 year bonds respectively.

What is your risk? What is the DV01 of your position?

How much will you outperform/underperform if rates fall 100 bps in parallel?

How much will you outperform/underperform if rates rise 100 bps in parallel?

Based upon this, what can you say about the convexity of your position – ie, are you long or short convexity and why?

What is the best thing you can do with the cash to reduce the risk in your portfolio?

Answer rating: 100% (QA)

Your risk is the difference between your portfolios duration and the duration o... View the full answer