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Question 5 a) Using Table below, construct a butterfly trade, for a 1M par value, by selling the 7-year bond and buying a portfolio of

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Question 5 a) Using Table below, construct a butterfly trade, for a 1M par value, by selling the 7-year bond and buying a portfolio of 3 -year and 15-year bonds applying: i) Cash and risk neutral weighting method ii) Fifty-fifty weighting method Explain and compare each method used. (10 marks) b) Explain what is meant by 'convexity pick up' and when would a butterfly trade investor benefit from it. (5 marks) c) Should the portfolio of long-term/short-term bond or a medium-term bond from cash-and-risk neutral method have a greater standard deviation in a butterfly trade? Calculate both and comment. (5 marks) d) Which of the three bonds in the butterfly trade in this question would you change if you wanted to increase the convexity pick-up? Give example and explain the consequences of such a change in addition to increase in convexity pick-up. (5 marks) Tahio 1 Question 5 a) Using Table below, construct a butterfly trade, for a 1M par value, by selling the 7-year bond and buying a portfolio of 3 -year and 15-year bonds applying: i) Cash and risk neutral weighting method ii) Fifty-fifty weighting method Explain and compare each method used. (10 marks) b) Explain what is meant by 'convexity pick up' and when would a butterfly trade investor benefit from it. (5 marks) c) Should the portfolio of long-term/short-term bond or a medium-term bond from cash-and-risk neutral method have a greater standard deviation in a butterfly trade? Calculate both and comment. (5 marks) d) Which of the three bonds in the butterfly trade in this question would you change if you wanted to increase the convexity pick-up? Give example and explain the consequences of such a change in addition to increase in convexity pick-up. (5 marks) Tahio 1

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