Portfolio consists of 200MM in assets with duration of 6 and 100MM in liabilities with 1 duration. Equity duration thus 11. Question asks to modify duration to 4. Formula used is (4 - 6)(200M) / (Futures Information on Bottom Which I Can’t Remember). Why not use 4 - 5.5 (net average asset duration when considering 100MM liabilities with 1 year duration). Hedging with duration of 6 would overhedge portfolio and cause portfolio duration to be <4. Question was multiple choice so I did get it right by the entire question is poor from a theory basis. 100MM in assets has a 6 duration, while the remaining 100MM is net 5. Invested in assets with 6 duration but having liability of 1 year liability attached to assets decreases duration to 5 or 5.25 if you use the 75& rule.
Should be the 75% rule.
not a good question…i think they are just trying to make a simple formula more difficult for people to miss it…just like the formula for currency contribution in international diversification…so simple,yet when asked in a problem set its the most likely to miss it
superstar123 Wrote: ------------------------------------------------------- > not a good question…i think they are just trying > to make a simple formula more difficult for people > to miss it…just like the formula for currency > contribution in international diversification…so > simple,yet when asked in a problem set its the > most likely to miss it Yeah standard deviation must always be in the same currency. I can see that being on the PM exam. The whole thing is this question is frankly just wrong. Using 6 as the duration has decreased portfolio duration below 4.