Mr. Lime is chief investment officer for a local authority and overseas 500m of investments. Mr. Lime's
Question:
Mr. Lime is chief investment officer for a local authority and overseas 500m of
investments. Mr. Lime's mandate limits him to only investing in interest bearing
securities and deposits, though he is not prohibited from using interest rate derivatives.
With 3-month Sterling Libor at 0.25%, 5-year Gilts yielding 1.25% and 10-year Gilts
yielding 1.75% Mr. Lime is struggling to generate enough income from his investments
to fund the cash requirements of the local authority. Ideally, he would like to earn at
least 2.5% so Mr. Lime seeks the advice the advice of an investment bank as to how
he can improve the yield on his cash using interest rate derivatives and structured
products.
a.
Assuming you work for the bank and under the above constraints, propose 3
significantly different solutions to Mr. Lime's problem. In each case outline the
details and workings as well as the risks involved.
(60 marks)
b.
Which of these 3 solutions would you recommend and why? Take into account
different elements, potential return, risk, etc.
(20 marks)
c.
Briefly describe the investment strategy and market events that led to the
bankruptcy of Orange County in 1994
(20 marks)