You expect interest rates to decline over the next six months. a. Given your int

Question

You expect interest rates to decline over the next six months.
a. Given your interest rate outlook, state what kinds of bonds you want in your portfolio
in terms of duration, and explain your reasoning for this choice.
b. You must make a choice between the following three sets of noncallable bonds. For
each set, select the bond that would be best for your portfolio, given your interest
rate outlook and the consequent strategy set forth in Part a. In each case, briefly discuss
why you selected the bond.
Maturity Coupon Yield to Maturity
Set 1: Bond A 15 years 10% 10%
Bond B 15 years 6% 8%
Set 2: Bond C 15 years 6% 10%
Bond D 10 years 8% 10%
Set 3: Bond E 12 years 12% 12%
Bond F 15 years 12% 8%

Explanation / Answer

(a). Given that you expect interest rates to decline during the next six months, you should choose

bonds that will have the largest price increase, that is, bonds with long durations.

(b). Case 1: Given a choice between bonds A and B, you should select bond B, since duration is

inversely related to both coupon and yield to maturity.

Case 2: Given a choice between bonds C and D, you should select bond C, since duration is

positively related to maturity and inversely related to coupon.

Case 3: Given a choice between bonds E and F,

you should select bond F, since duration is

positively related to maturity and inversely related to yield to maturity.

Related Questions

Navigate

• Browse (All)
• Browse Y
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.