The Following Information Relates to Questions
Katsuko Zhao and Johan

question 15

Essay

The following information relates to Questions
Katsuko Zhao and Johan Flander are portfolio managers with cowiler investments, a uS-Mbased company. They are assessing the effect of their yield curve forecasts on their bond port- folios. The yield curve is currently upward sloping. Zhao's portfolio is currently invested in uS treasury securities. Zhao forecasts an instanta- neous parallel downward shift in the yield curve. Zhao considers two alternatives to reposition her current portfolio given her yield curve forecast and assesses the trade-off between convexity
and yield. exhibit 1 presents allocations for the current and two alternative portfolios. The durations of the current and alternative portfolios are closely matched.
$\begin{array}{l}\text { EXHIBIT } 1 \text { Allocations for Current and Alternative Portfolios }\\\begin{array} { l c c c } \hline \text { Remaining Term } & \text { Current } & \text { Alternative 1 } & \text { Alternative 2 } \\\hline 2 \text { years } & 33.33 \% & 0.00 \% & 50.00 \% \\10 \text { years } & 33.33 \% & 100.00 \% & 0.00 \% \\20 \text { years } & 33.33 \% & 0.00 \% & 50.00 \% \\\hline\end{array}\end{array}$
-Determine which investment would be most appropriate for Zhao given her yield curve forecast. Justify your response. Template for Question 30
Determine which investment would be most appropriate for Zhao given her yield curve forecast. (circle one

Flander forecasts that the yield curve will steepen over the next 12 months, with long rates
remaining the same and short and intermediate rates falling. Flander evaluates the effect of these interest rate changes on his three bond portfolios. The partial or key rate price value of a basis point (PvbP) data for Flander's three portfolios is presented in exhibit 2. $\begin{array}{l}\text { EXHIBIT } 2 \text { Partial or Key Rate PVBPs for Short, Intermediate, and Long-Term Maturities }\\\begin{array} { l c c c c } & \text { Total } & \text { Short } & \text { Intermediate } & \text { Long } \\\hline \text { Portfolio A } & 0.0374 & 0.0056 & 0.0127 & 0.019 \\\text { Portfolio B } & 0.0374 & 0.0102 & 0.0079 & 0.019 \\\text { Portfolio C } & 0.0374 & 0.0103 & 0.0169 & 0.010\end{array}\end{array}$

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Definitions:

Downward Sloping

Illustrates a decrease or decline in value or quantity in response to an increase in another variable, often related to price and demand in economic contexts.

Demand Curve

A graph showing the relationship between the quantity of a good or service that consumers are willing to buy and its price.

Monopolistically Competitive Market

A market structure characterized by many firms selling similar but not identical products, with each having some control over its own prices.

Economic Profit

The profit a company makes after subtracting both its explicit and implicit costs.