Suppose that you are given the following zero-curve (interest rates are annual, but com- pounded semi-annually): t r 0.5 1 1.5 2 0.02 0.021 0.023 0.025 2.5 3 3.5 4 0.03 0.035 0.04 0.041 Question 2: Steepener Trade For this part, use the Fama-Bliss tab in hwldata.xls. This file contains zero-coupon yields (reported in %). For simplicity, assume that the yields are annually compounded. 1. It is November 30, 2010 and you hold a $1mm (market value) long position in the 1-yr zero- coupon bond. Using modified durations, determine how much of the 5-yr zero- coupon bond you need to short so that your portfolio remains approximately unchanged if the 1-yr and 5- yr zero rates move in parallel. This is known as a steepener trade - you profit if the yield curve becomes steeper. What is the market value of your portfolio? 2. What actually happens