Sunteți pe pagina 1din 2

FICR IF3200 Problem Set 4

Problem Set Bond Risk Management


Unless otherwise stated, assume all rates given are annual, annually compounded, and that
the market is free from frictions, default risk and arbitrage.
1. State whether each of the following propositions is true or false, and give reasons.
a. The Macaulay duration of a ten year Floating Rate Note (where the interest
rate is set every three months at the prevailing 3 month LIBOR rate) is many
times larger than its modified duration.
b. The modified duration of a consol (perpetual) bond with a coupon of 3% is
larger than the modified duration of a consol with a coupon of 5%.
c. The modified duration of a consol is larger than the modified duration of any
zero coupon bond with a finite maturity.
d. If you have a portfolio invested in 5m market value of 5 year zero coupon
bonds and 5m market value of 10 year zero coupon bonds, the modified
duration of your portfolio will be exactly 7.5 years.
e. Portfolio A is invested solely in 10 year zero coupon bonds. Portfolio B is
invested equally (by market value) in 5 and 15 year bonds. Portfolio B has
greater convexity than portfolio A.
f. If you hold a portfolio that has zero duration and positive convexity, then the
value of the portfolio will be virtually unaffected by small interest rate shifts
but will increase in value if interest rates move up or down by a large amount.
g.
h.
2. A 5 year bond with a coupon of 7%, that pays interest annually, has its next coupon
due in 12 months. It yields 5% per annum.
a. compute the price of the bond.
b. compute the duration of the bond. Use this to compute approximately how the
price of the bond will change if yields rise to 6%.
c. Compute the convexity of the bond. Use this to obtain a more precise estimate
of the change in the price which will occur if the yield rises to 6%.
3. Three bonds have the following coupons, prices, yields, durations and convexities:

FICR IF3200 Problem Set 4
Bond Coupon Price Yield Durtion Convty
A 14.5% 109 11.3% 2.90 4.84
B 15.5% 120 11.6% 5.13 16.28
C 13.5% 114 11.4% 7.08 34.18
You have been asked to advise a pension fund on how to immunise its bond portfolio
against a known nominal liability. The fund is not allowed to short bonds. The actuaries
advise that the liability is valued at 2 million, and has a duration of 6 years and a
convexity of 42 (year)
2
.
a. Calculate the quantities of each bond to buy using a hedge based on duration
alone if the objective is to match duration while (i) maximising interest
income or (ii) maximising convexity.
b. How much of each bond would you buy if you wanted to match both duration
and convexity? Can you match while obeying the requirement of no short
positions?
c. Provide a brief description of the principles this type of hedging is based on,
and its strengths and weaknesses.

S-ar putea să vă placă și