This is from schweser practise exam vol 1 page 178 Q 95. for the interest collar construction, I can understand to buy a cap and sell a floor can make a zero-cost collar. But, I cannot understand why it is a perfect hedge. BUY a cap - I can understand SHORT a floor - why is short? if the interest rate falls below the floor rate, there is a infinite loss, right? (for holding floating rate bond indexed to LIBOR) Hope someone to clarify…
