An FI portfolio manager holds 10-year $1 million face value bonds.At time 0, these bonds are valued at $95 per $100 of face value and the manager expects interest rates to rise over the next three months.What should the manager do?
A)The FI portfolio manager should leave the position untouched as changes in the interest rate have no impact on bond prices.
B)The FI portfolio manager should leave the position untouched as an increase in interest rates will lead to higher bond prices.
C)The FI portfolio manager should hedge the position by selling a three months forward contract with a face value of $1 million.
D)The FI portfolio manager should hedge the position by buying a three months forward contract with a face value of $1 million.

Question

Quizplus · Accepted Answer

When interest rates rise, bond prices fall. To protect the portfolio from a decrease in bond prices due to expected rising interest rates, the manager should hedge the position. Selling a forward contract allows the manager to lock in a price now, mitigating the risk of price decline.

An FI Portfolio Manager Holds 10-Year $1 Million Face Value