Question
Use a 1-year, 5% coupon (annual), $1000 face value bond and a 6 year 6% coupon (annual), $1000 face value bond to make an immunized
Use a 1-year, 5% coupon (annual), $1000 face value bond and a 6 year 6% coupon (annual), $1000 face value bond to make an immunized portfolio that will be worth $1000 million in 3 years. Assume the annual discount rate is 4% for both bonds. Check to see if your portfolio is immunized by showing how much money your portfolio will be worth in 3 years if interest rates rise to 5% at the beginning of year 2 (annual rates of 4%, 5%, 5%, 5%, 5%, 5%). Alternatively, show what your portfolio would be worth in 3 years if rates rise to 10% at the beginning of year 2 but return to 4% at the beginning of year 3 (annual rates of 4%, 10%, 4%, 4%, 4%, 4%). You should be not immunized as well in this case. Intuitively, why not? Show all work and do not use excel or a finance calculator.
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