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Question
An investment company has purchased $100 million of 10 percent annual coupon, 6-year Eurobonds. The bonds have a duration of 4.79 years at the current market yields of 10 percent. The company wishes to hedge these bonds with Treasury-bond options that have a delta of 0.7. The duration of the underlying asset is 8.82, and the market value of the underlying asset is $98,000 per $100,000 face value. Finally, the volatility of the interest rates on the underlying bond of the options and the Eurobond is 0.84.
Using the above information and your answer to the previous question, will the investment company gain or lose on the option position if interest rates decrease 1 percent to 9 percent?
A. Lose $4,352,414.
B. Gain $4,352,414.
C. Lose $2,559,700.
D. Gain $3,659,354.
E. Lose $3,659,354.
Answer
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