You are given the following information for four bonds. Bond Coupon N YTM A 0% 3 years 5% B 0% 10 7% C 0% 15 9% D 0% 30 12% Portfolio 1 consists of 50% in Bond B and 50% in Bond C Portfolio 2 consists of 50% in Bond A and 50% in Bond D Portfolio 3 consists of 25% in each Bond.

Assume that bonds pay coupons annually and you investment horizon is 2 years. The maximum annual changes of base rates are +/-200 basis points (using 50 basis point intervals). a. Calculate duration of each portfolio. b. If you expect a parallel movement which portfolio provides the best return? c. If you expect a flattening of the yield curve which portfolio provides the best return? Assume that yields of Bonds B and C change by the same amount, yield of Bond A increases by 50 basis relative to that of C and D decreases by 50 basis points relative to the yield of C. For example, if yield of C increases by 100 basis points then yield of A increases by 150 basis points and D increases by 50 basis points. d. If you expect a steepening of the yield curve which portfolio provides the best return? Assume that yields of Bonds B and C change by the same amount, yield of Bond A deceases by 50 basis relative to that of C and D increases by 50 basis points relative to the yield of C. For example, if yield of C increases by 100 basis points then yield of A increases by 50 basis points and D increases by 150 basis points.