Question
You are a manager of Short Term Capital Management (STCM). You observe that the interest rate on 4 year notes is 4.5 percent, while the
You are a manager of Short Term Capital Management (STCM). You observe that the interest rate on 4 year notes is 4.5 percent, while the interest rate 4.25 year notes is 4.35 percent. You know for sure for sure that the two interest rates will converge in four months to some value X. You also have the ability to go short $500 million face in any note you choose. Given all this, describe your profit making arbitrage strategy. Then graph the amount of money you will make if the interest rate converges to X, X a percentage rate between 3 and 10 percent. Please make sure you dont have negative returns! First note that if you have negative returns, you can simply reverse strategy! Make sure your graph is done in EXCEL, has at least 50 data points, and not too much empty space.
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