It is April 13, 2016.
Consider the following Treasury yield curve:
|
Maturity |
YTM |
Price |
| 2-year |
3/31/2018 |
2.00% |
100-00 |
| 5-year |
3/15/2021 |
3.50% |
100-00 |
| 10-year |
2/28/2026 |
4.75% |
100-00 |
There are 2 portfolios, each with $100MM market value.
Portfolio I: 5-year bullet.
Portfolio II: 2-year/10-year barbell.
1.) Today, you invest the $100MM in each portfolio, so that the portfolios have the same duration. The trades settle tomorrow.
How much is invested in the 2-year and the 10-year?
Suppose on October 14, 2016 the 2-year ytm increases 50bp and the 10-year ytm increases 25 bp.
2.) What are the price and yield of the 5-year that produce the same realized total rate of return for the bullet and the barbell for this 6-month investment period?
3.) Discuss the issues/complexities involved with solving these questions.
IV. Your Assignment
You are a portfolio manager for Vandelay Capital Management's Investment Grade Bond Fund.
You think that interest rate spreads are going to widen soon. (BBB-UST, for example.)
Change the Spread Matrix in Case #2 to reflect your views.
Things to consider: do all spreads widen by the same amount? Or by different amounts.
Explain why you changed the spread matrix the way you did.
The key parts of this problem involve Cases #3 and #4.
You want to change your porfolio to reflect your views that spreads will soon widen.
No guts, no glory.
Change your asset allocation by adjusting Case #3.
You can do this in two ways. The first is: adjust the par amounts, i.e., change the equal par weighting.
The second way is: choose the portfolio duration and portfolio convexity you want.
Then use Solver to find the asset weights that attain your portfolio objectives.
Explain why you changed the portfolio as you did.
Then take the weights from Case #3 and enter them into Case #4.
Then change the spread matrix for Case #4, just as you did in Case #2.
Compare portfolio duration and portfolio convexity for Cases #1 and #3.
Then compare Cases #2 and #4.
How much did your aggressive portfolio reallocation save your clients?
Attachment:- Project Revised Spring.rar