Assignment 4 FIN 4720 Futures Chapters 10 & 12 Due THURSDAY 7/9/20 11:59 pm.

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Chapter 10

1. It’s now July 1, a portfolio manager holds $1 million face value of Treasury bonds, the 11
l/4s maturing in about 29 years. The price is 107 14/32. The bond will need to be sold on
August 30. The manager is concerned about rising interest rates and believes that a hedge
would be appropriate. The September T-bond futures price is 77 15/32. The price
sensitivity hedge ratio suggests that the firm should use 13 contracts.

a. What transaction should the firm make on July 1 and why? (hint, find the amount of
contracts)
b. On August 30, the bond was selling for 101 12/32 and the futures price was 77 5/32.
What is the outcome of the hedge?

2. You are the manager of a bond portfolio of $10 million face value of bonds worth
$9,448,456. The portfolio has a yield of 12.25 percent and a duration of 8.33. You plan to
liquidate the portfolio in six months and are concerned about an increase in interest rates
that would produce a loss on the portfolio. You would like to lower its duration to 5
years. A T-bond futures contract with the appropriate expiration is priced at 72 3/32 with
a face value of $100,000, an implied yield of 12 percent, and an implied duration of 8.43
years.
a. Should you buy or sell futures? How many contracts should you use?
b. Let’s say six months, the portfolio has fallen in value to $8,952,597. The futures price
is 68 16/32. Determine the profit/loss from the transaction.
 3. As in investor you plan to buy 1,000 shares of a Swiss stock. The current price is SF950.
The current exchange rate is $0.7254/SF. You are interested in speculating on the stock
but do not want to assume any currency risk. You plan to hold the position for six
months. The appropriate futures contract currently is trading at $0.7250. Construct a
hedge and evaluate how your investment will do if in six months the stock is at SF926.50,
the spot exchange rate is $0.7301, and the futures price is $0.7295. The Swiss franc
futures contract size is SF125,000. Determine the overall profit from the transaction.

4. It is currently January31, a company learns that it will have additional funds available on
May 31. It will use the funds to purchase $5,000,000 par value of the APCO 9 1/2 percent
bonds maturing in about 19 years. Interest is paid semiannually on March 1 and
September 1. The bonds are rated A2 by Moody’s and are selling for 78 7/8 per 100 and
yielding 12.32 percent. The modified duration is 6.80. The firm is considering hedging
the anticipated purchase with September T-bond futures. The futures price is 71 8/32.
The firm believes that the futures contract is tracking the Treasury bond with a coupon of
12 3/4 percent and maturing in about 25 years. It has determined that the implied yield on
the futures contract is 11.40 percent and the modified duration of the contract is 8.32. The
company believes that the AP bond yield will change 1 point for every 1-point change in
the yield on the bond underlying the futures contract.

a. Determine the transaction the firm should conduct on January 31 to set up the hedge.
(Hint, determine the number of contracts)
b. On May 31, the APCO bonds were priced at 82 3/4. The September futures price was
76 14/32. Determine the outcome of the hedge.

5. What is the profit on a hedge if bonds are purchased at $150,000, two futures contracts
are sold at $72,500 each, then the bonds are sold at $147,500 and the futures are
repurchased at $74,000 each?

6. You hold a bond portfolio worth $10 million and a modified duration of 8.5. What
futures transaction would you do to raise the duration to 10 if the futures price is $93,000
and its implied modified duration is 9.25? Sell or buy how many contracts?

7. Let’s say its June 27 of a particular year, an American watch dealer decided to import
100,000 Swiss watches. Each watch costs SF225. The dealer would like to hedge against
a change in the dollar/Swiss franc exchange rate. The forward rate was $0.3881.
Determine the outcome from the hedge if it was closed on August 26, when the spot rate
was $0.4434.

Chapter 12
 8. Suppose you are the treasurer of a firm that will need to borrow $10 million at LIBOR
plus 2.5 points in 45 days. The loan will have a maturity of 180 days, at which time all
the interest and principal will be repaid. The interest will be determined by LIBOR on the
day the loan is taken out. To hedge the uncertainty of this future rate, you purchase a call
on LIBOR with a strike of 9 percent for a premium of $32,000. Determine the amount
you will payback and the annualized cost of borrowing for LIBORs of 6 percent and 12
percent. Assume the payoff is based on 180 days and a 360-day year. The current LIBOR
is 10 percent.

9. A large, multinational bank has committed to lend a firm $25 million in 30 days at
LIBOR plus 100 bps. The loan will have a maturity of 90 days, at which time the
principal and all interest will be repaid. The bank is concerned about falling interest rates
and decides to buy a put-on LIBOR with a strike of 9.5 percent and a premium of
$60,000. Determine the annualized loan rate for LIBORs of 6.5 percent and 12.5 percent.
Assume the payoff is based on 90 days and a 360-day year. The current LIBOR is 9.5
percent.

10. Find the approximate market value of a long position in an FRA at a fixed rate of 5
percent in which the contract expires in 20 days, the underlying is 180-day LIBOR, the
notional amount is $25 million, the 20-day rate is 7 percent, and the 200-day rate is 8.5
percent.

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