PART 1: Short objective questions with explanations Q1. (20%) As an Analyst for a Mayfair hedge fund trading bonds, you are preparing for the Monday morning trader's meeting. Using the following data from Reuters, please answer the questions below in preparation for the meeting: Bank of England Overnight Rate Current Forecast of Annual Inflation Annual Growth Rate in Maturity Premium 2% 3% 10% a. Using the data supplied, please plot the current yield curve out to fifteen years. (10 marks) b. Due to economic uncertainty, it is expected that the Bank of England will pursue an expansionary monetary policy, how might the yield curve shift? Explain why. (20 marks) c. If the markets became more worried about the future, how would it affect the Maturity Premium and how would the Yield Curve shift? Explain why. (20 marks) d. A client of the fund is seeking financial advice. Her firm wishes to borrow funds for five years. By informing her of what she is likely to pay in the future when re-financing, which of the following strategies would you recommend and why, assuming all other factors are equal? For Credit Risk, her firm pays 200 Basis Points above the Bank of England rate. (30 marks) IMPLIED ALTERNATIVE STRATEGIES FUNDING STRATEGIES FORWARD RATES Borrow One Year Fixed and Re-finance for four years at the end of Year One Borrow for Two Years Fixed and Re-finance for three years at the end of Year Two Borrow for Three Years Fixed and Re-finance for two years at the end of Year Three Borrow for Four Years Fixed and Re-finance for one year at the end of Year Four. e. To help the client of the fund, using relevant theories, please explain the factors shaping the Yield Curve and why a pure Expectations Theory, as you have computed, may not be accurate. (20 marks) PART 1: Short objective questions with explanations Q1. (20%) As an Analyst for a Mayfair hedge fund trading bonds, you are preparing for the Monday morning trader's meeting. Using the following data from Reuters, please answer the questions below in preparation for the meeting: Bank of England Overnight Rate Current Forecast of Annual Inflation Annual Growth Rate in Maturity Premium 2% 3% 10% a. Using the data supplied, please plot the current yield curve out to fifteen years. (10 marks) b. Due to economic uncertainty, it is expected that the Bank of England will pursue an expansionary monetary policy, how might the yield curve shift? Explain why. (20 marks) c. If the markets became more worried about the future, how would it affect the Maturity Premium and how would the Yield Curve shift? Explain why. (20 marks) d. A client of the fund is seeking financial advice. Her firm wishes to borrow funds for five years. By informing her of what she is likely to pay in the future when re-financing, which of the following strategies would you recommend and why, assuming all other factors are equal? For Credit Risk, her firm pays 200 Basis Points above the Bank of England rate. (30 marks) IMPLIED ALTERNATIVE STRATEGIES FUNDING STRATEGIES FORWARD RATES Borrow One Year Fixed and Re-finance for four years at the end of Year One Borrow for Two Years Fixed and Re-finance for three years at the end of Year Two Borrow for Three Years Fixed and Re-finance for two years at the end of Year Three Borrow for Four Years Fixed and Re-finance for one year at the end of Year Four. e. To help the client of the fund, using relevant theories, please explain the factors shaping the Yield Curve and why a pure Expectations Theory, as you have computed, may not be accurate. (20 marks)
