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A fixed income arbitrage hedge fund focuses on Treasury bond trading. Bond A is a ten - year Treasury bond ( Notes ) which was
A fixed income arbitrage hedge fund focuses on Treasury bond trading. Bond A is a tenyear
Treasury bond Notes which was issued eight years ago in a low interest environment. Bond
B is a threeyear Treasury bond Notes issued one year ago in a high interest environment.
The two bonds have two years left to maturity each and the following coupon payments, face
value and prices.
a Is there an arbitrage? p
b If yes, find one arbitrage portfolio and determine the price and payoff of itpp
c Another investor who understands arbitrage trading, asks the sales and trading team of
an investment bank to execute a trade of the two bonds such that he makes $
million at and $ at without paying for it How does it look like? p
d When executing this arbitrage trade, investors buy bond B What is the intuition? It is
useful to compare the yields of the two Treasury bonds. p
e As arbitrageurs are buying bond B the price of bond increases to Given
$ and $ is there still an arbitrage? p
f Given $ and $ what is the oneyear yield of a Treasury bond in this
market? p
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