Question: bondi super plans to invest 100 million in a portfolio...
Bondi Super plans to invest $100 million in a portfolio with a duration of 5 years using two default-free zero-coupon bonds, X and Y. Bond X matures 2 years and six months from today, while Bond Y matures 10 years from today. All bonds have a par value of $1,000,000 and are currently priced to yield 5% pa.
a) How many of each bond should Bondi Super buy? Show your calculations
b) Using a duration-based approximation, what would be the dollar profits and losses (P&L) on the portfolio if all yields increase to 6% (parallel shift in the yield curve) right after you form the portfolio? Recalculate the portfolio’s dollar P&L using a convexity adjustment.