On January 31, 2018 a firm learns that it will have additional funds available on May 31, 2018. It will use the funds to purchase $10 million par value of the Prestige Worldwide 9.25 percent bonds maturing in 10 years. Interest is paid semi-annually on March 30 and September 30. The bonds are rated A1 by Moodys and are selling for 79.50 and yielding 12.25 percent. The modified duration is 7.70. The firm is considering hedging the anticipated purchase with September T-bond futures. The futures price is 71.06. The firm believes that the futures contract is tracking the Treasury bond with a coupon of 12.50 percent and maturing in about 12 years. It has determined that the implied yield on the futures contract is 11.50 percent and the modified duration of the contract is 8.30. The firm believes that the Prestige Worldwide bond yield will change 1 point for every 1-point change in the yield on the bond underlying the futures contract.

a) Determine the transaction the firm should conduct on January 31, 2018 to set up the hedge. b) On May 31, 2018 the Prestige Worldwide bonds were priced at 82.25. The September futures price was 76.50. Determine the outcome of the hedge.