Massa Petroleum has won a fixed-price contract to provide oilfield services to a major oil company. The contract is for three years and the payment schedule for the maintenance work is outlined below. The payments will be every six months, with the first payments in six months time. The rates in the current par yield curve for the six-monthly periods covering the contract are as follows: 4.00%, 4.125%, 4.30%, 4.60%, 4.875% and 5.25%, respectively.

The fixed payments to be made to Massa over the next three years, starting in six months are: $80m, $70m, $90m, $110m, $115m and $125m, respectively.

Required:

(a) Construct the zero-coupon rates for the three-year contract period and calculate

the present value of the cash flows to Massa.

(b) The finance director of Massa is concerned about the interest rate environment, so he conducts a 25 basis point parallel shift risk analysis. He also does a 25 basis point rotational risk analysis, with the curve pivoting at three years. The correlation between the two risk factors is 0.82. Show his calculations and quantify the extent of the interest rate risk, i.e. calculate the total risk to Massa.

(c) Explain what the benefit is of analysis of parallel and rotational movements.