2006 FIXED INCOME FINAL EXAM (MScIF)
March 13 2006
1. Find the CDS spread of the corporate bond on handout 1.
2. When rates increase by 1%, the net economic surplus of a corporation reaches $400 million. The duration of the assets is 7. Assets stand at $800 million and liabilities at $300 Million.
a. What is the liabilities’ duration?
2. You borrow $1 million at 6.00% for one year and deposit $1 million for 4 month (123 days)at 4.75%. You wish to hedge the mismatched position, based on the following FRA prices quoted to you:
1 x 4 : 5.00% /5.10% 2 x 6: 5.20%/5.25% 4 x 8 : 5.30% / 5.35%
a. Do you buy or sell the FRA? b. At what price ?
c. For a complete hedge, what amount do you deal?
When it comes to fixing the FRA, the corresponding Eurodollar futures contract trades at 95.50.
d. What is the settlement amount ? Who pays whom?
e. What is the overall profit or loss of the book and the end of the year?
3. A structured note guarantees its clients a 8% yearly return on a 5-year period. Total amount gathered for this note reaches $50 million.
The structurer immunized rate is 10%. The interest is only obtainable at maturity. There is no cash flow distributed to investors.
At what rate must the structurer start immunizing his portfolio if he invests all the funds a 10-year corporate zero coupon bond yielding 6% ? (Hint: you must first calculate the duration of the zero coupon bond)
Once the rate reached , what must the structurer do? Be precise in your answer.
4. Use Handout1 (2 sheets) for this question. You have the following position:
Long $3,000,000 Face value of the Exxon (XOM)bond
Long $1,500,000 face value of the Wal-Mart (WMT) bond
a) What is the market value of your portfolio including accrued interest?
b) What is the average duration and convexity of your portfolio?
c) You wish to decrease the average duration of your portfolio by 20% using the futures market. How many contracts must you buy/sell to reach that duration? d) You wish to swap the Exxon and PG bonds for the
WMT bond while keeping the same duration. How many WMT bond must you buy or sell to maintain the duration found in question c)
e) You now hold only WMT bonds (volatility= 17%) and wish to hedge against an increase in interest rates.
What futures contracts will you use and why,
How many contracts must you buy/sell to hedge?
