Financial Risk Manager

Convexity in Bonds

2008-08-08T19:27:59-08:00

Hi David,
In FRM Handbook Ch-13, Phillipe Jorion has mentioned that bonds always have positive convexity.In options the convexity(Gamma) can be both positive and negative. Long position in an option has positive Gamma, while short position in an option has negative gamma.
I wanted to know whether bonds irrespective of long or short position always have positive convexity. I thought that long position in a bond would have positive convexity and vice versa. And also a call option in a bond creates a negative convexity for a bond holder and a put option on a bond does create a negative convexity position for an issuer.

Mccaulay duration and the denominator k

2008-11-11T09:51:22-08:00

What is the denominator k in the Mccaulay duration formula?
Also why does the the duration for zero-coupon and deep discount bonds with maturities greater than 20 years fall slightly with increase in maturity date?
A last thing was that you said that reinvestment risk and interest rate risk go hand in hand. Is it because for low coupon bonds or no-coupon bonds if the interest rates go up the price decrease and hence though the reinvestment risk is avoided if YTM increases too much(opposite of reinvestment risk) the no-coupon bond suffers from lack of reinvestment.
Just looked for clarification on this point.
Vivek

expected value of zero-coupon bond

2008-11-02T20:21:27-08:00

Hi David,

In 2006 Practice Exam I, there is a question (question 1) regarding
expected value of zero-coupon bond, do you know which chapter Tuckman talks about this since I can find it.

Thanks!
Steve

DV01 Option-Bond hedge explained in Market B2

2008-10-18T14:28:20-08:00

Hi David

I got confused with the explanation of DV01 hedge by
1. Writing call option
2. Long on zero coupon bond

If rates decline, value of call option would decline. It should not affect the option writer adversly.
Infact it might be better for the writer as that chances of option getting exercised is less.
And rates decline would raise price of the bond.

So effectively this combination does not produce a good hedge.

Am I missing something here

Thanks
Atin

Bonds (Duration & Convexity)

2008-10-22T09:15:56-08:00

Hi David,
I have a small doubt.
Holding yield constant , the bond with lower coupon would have higher duration and greater convexity.
But I read somewhere that by keeping both yield and duration constant, the bond with lower coupon has lower convexity.Convexity is a measure of dispersion of cash flows.Could you please explain the same.
If possible could you upload an excel working for this if possible.
Regards,
Sunil

Inverse and Reverse Floaters

2008-09-04T19:08:27-08:00

Hi David,

I really appreciate your screencast tutorials. This is great especially to those reviewees who are also busy working just like me.

Jorion’s Handbook has few practice questions about inverse and reverse floaters, mostly relating it to duration (please see page 179 of the Handbook). Though he provided the answers for those, I do not quite get how he came about those answers. Can you provide us a brief discussion on inverse/reverse floaters and the like, just to have a brief background on the subject? If possible, can you expound the explanation of Jorion on those practice questions?

Thanks so much and more power.

Chinquee

Social Security (SSI) & Investing/Banking quesitons

2008-09-25T21:13:14-08:00

Hello Everyone.
I hope i’m in the correct forum first of all, but I guess I’ll soon find out. I am a caregiver for a individual that is on SSI (social security income) and unlike SSDI -social security disability income - SSI deducts from your monthly benefit any monies obtained over a certain limit. With me so far? Ok. Here we go.
The individual I am a caregiver for - I am also this person’s payee-representative, through social security - I am responsible for all this individuals finances; (i.e. bills being paid) as well as making sure patient is taken too all his doctor’s appointments ( person isnt able too drive due too underlying medical issues) and assisting the patient with home care 24 hours a day so I’m a live in care giver. The patient doesnt pay me, the state does through a agency for adult home care.
This individual in the near future is due too receive monies that will definitely exceed what what SSI allows, & individual currently has a bank account but I am the payee/beneficiary of the bank account because I pay all patients bills, etc.
Patient is concerned that the monies that will be due him, due too a settlement. will end up messing up, if not practically stopping, SSI monthly benefits, because of the amount of the settlement.
I had heard that there are ways for person’s in such situations too handle such issues and I was wondering if anyone knew how we would go about this, and where we would go about this?
In reference too my services being paid through an agency through the state of Michigan - it is nothing like a RN wage it’s only a set <monthly> wage under 500.00 gross. This doesnt include wear on my car, repairs, monies patient has even borrowed from me over the past 5 years & while patient was waiting for over two years for the decision too be made on patients application for social security.
I have no knowledge of cd’s or IRA’S. We don’t want too consider anything in the stock market at this time. What would be the best advise for persons in this situation? Would durable power of attorney/power of attorney be something too consider at this time? Should this be done PRIOR too monies being paid (lump sum) ? Obviously I will consult an attorney in regard too this for the durable power of attorney issues, but as far as any and all banking issues, what would be some ideas? How, if at all, could this be done without it affecting patients SSI?
Thank you in advance for your time.
Sophia

P-Strips & C-Strips

2008-04-18T12:33:28-08:00

Tuckman says “when reconstituting a bond, any C-STRIPS maturing on a particular coupon payment date may be used as that bond’s coupon payment” & “P-STRIPS created from the stripping of a particular bond may
be used to reconstitute only that bond.”

I failed to understand this difference between P-strip & C-Strip, principal and coupon part of a particular coupon bond.

Thanks

Valuation of an Interest rate swap

2008-08-03T06:47:21-08:00

Hi David,
I feel there is some discrepancy in the Derivatives 1 screencast relating to the valaution of an IRS. In the screencast you have said that the swap has 15 months to maturity. The Libor rates given are 3,6,9,12. Which means standing today we donot have the Libor rates as of the end of the 15th month. Hence I am a little confused as to how the 12 month rate has been used to discount the 15th month cash flow.

Also while calculating the cashflow for the floating leg it is said that we knew about that the 6 month Libor rate from the beginning of the period hence a cash flow of 2.75 (5.5/2) needs to be taken. But my question is why the same rate (5.5%) has not been used to discount the fixed cashflows.

I hope I was able to make some sense. If my question is not clear please let me know.

CDS Dvo1 on excel

2008-09-03T17:30:11-08:00

Is there any way i can calc dvo1 for CDS on excel. Your help will be appreciated