C
HAPTER
12
12
FIXEDI
NCO
ME P
O
R
T
F
O
LI
O
M
A
N
A
G
EME
N
TPART II
SOLUTIONS
1 . A . Because you are consi
d
ering
b
on
d
s wit
h
em
b
e
dd
e
d
options, t
h
e returns o
f
port
f
o
l
ios
are un
l
i
k
e
l
y to
b
e norma
ll
y
d
istri
b
ute
d
. Because s
h
ort
f
a
ll
ris
k
is not
b
ase
d
on norma
l-
over t
e next six mont
s), s
ort
a
ris
cou
e a use
u
measure to
oo
at.
B . One o
f
t
h
e s
h
ortcomings o
f
s
h
ort
f
a
ll
ris
k
is t
h
at it is not as common
l
y use
d
as stan
d
ar
d
d
eviation, an
d
t
h
ere is re
l
ative
l
y
l
ess
f
ami
l
iarity wit
h
s
h
ort
f
a
ll
ris
k
. A
l
so, its statisti
–
l
d
160 Part II: Solutions
us, the pension fund would need to buy 119 futures contracts to achieve the desired
increase in duration.
3 . Covered call writing is a good strategy if the rates are not going to change much from their
present level.  e sale of the calls brings in premium income that provides partial protection
d
f
h
h
consequences i
f
rates
d
o not c
h
ange
b
ecause t
h
e a
dd
e
d
income
f
rom t
h
e sa
l
e o
f
ca
ll
s wou
ld
b
e o
b
taine
d
wit
h
out sacri
cing any gains.
us, Consu
l
tant A, w
h
o suggeste
d
se
ll
ing covere
d
b
d
b
Consu
l
tant B, w
h
o suggeste
d
d
oing not
h
ing,
l
i
k
e
l
y
b
e
l
ieves t
h
at t
h
e interest rates wou
ld
go
d
own.
I
f
one
h
as no c
l
ear o
p
inion a
b
out t
h
e interest rate out
l
oo
k
b
ut wou
ld
l
i
k
e to avoi
d
ld
f
d
dh
b
4 .
e
p
ayo
to More Money Fun
d
s wou
ld
b
e:
Pa
y
o
=
(
0.030
−
Cre
d
it s
p
rea
d
at maturity)
×
$
10 million
×
5
=
(
×
$
×
5
=
(
×
$
×
5
−
×
×
5
5 . First,
l
et us com
p
ute t
h
e amount in eac
h
o
f
t
h
e t
h
ree tranc
h
es in t
h
e CDO.
e se
–
nior tranche is 70 percent of $250 million
=
$175 million.  e junior tranche is 20
=
−
=
=
=
=
=
=
=
×
l
d
d
Chapter 12 Fixed-Income Portfolio Management—Part II 161
Substituting into the formula:
7 .
e investor can eva
l
uate t
h
e c
h
ange in va
l
ue o
f
t
h
e Cana
d
ian
b
on
d
i
f
US rates c
h
ange
b
y
80
b
ps as
f
o
ll
ows:
b
ld
162 Part II: Solutions
of a repo because those needin
g
that collateral are willin
g
to lend funds at a lower cost to
h
f
managemen
t
.
ou
t
comes.