# Practice Question

number 18.1 from schweser practice test afternoon session number 2. a client has a \$5 million position in fixed rate treasury bonds. the firm wants to hedge this position using treasury calls. The calls cover 100,000 par position. What is the most apapropriate action to delta hedge the bond position? A. sell 20 bond calls b. buy 20 bond calls c. sell 125 bond calls… Answer below… the answer is C sell 125 bond calls…the equation is 1/.4 x 5mil/100,000= 125 calls real quickly, why do you sell the calls? because the current position they lose if rates go up…so in a bond call you would lose if rates go up right? so you sell them?..i get confused because i’m thinking of interest rate call where you win if rates go up…but with bond calls you win if rates go down and bond value goes up? is this correct? thanks guys

Is the call delta 0.4?? Anyways, you are long the bonds, so to hedge the position, you must have a short position in the bonds at some future date. We only have calls as the answer choices in the question. We dont want to buy the calls because we do not want to be able to buy more bonds. We want something by which we will be able to sell our existing bonds. This can be achieved by selling call options.

quite simply, Mv x (1/-delta)= # contracts. notice the negative delta. this suggests you sell here.

yes sorry…the delta is 0.4… MV x (1/delta)…that seems simple enough…where is this equation? i’ve not seen it, or i forgot it

you already forgot the negative sign… and i said notice the negative delta. Do not forget it.