You have been appointed as a new staff member in the Risk Management Division of UniBank in Australia. The head of the division provides you with the following background information:

The bank operates in the domestic retail and commercial market and needs to manage its risk exposure in terms of interest rate changes; market risk; credit risk; liability and liquidity risk; off-balance-sheet risk; technology and other operational risks; and its capital adequacy.

Considering the current level of competition in the market and also the volatile financial market, there are some issues that require quick answers and need to be attended to. Within this context, the head of the division asks you to attend to the following issues:

 Due to the increase in market risk, the bank is considering the possible restructuring of its trading portfolio. Currently, the portfolio consists of the following securities.

The bank holds a ten-year zero-coupon bond with a face value of $1,000,000. The bond is trading at a yield to maturity of 5.5%. The historical mean change in daily yield is 0.00%, and the standard deviation is 25 basis points.

The bank has a ¥200 million long trading position in spot Japanese Yen at the close of business on a particular day. The exchange rate is $0.011/¥1, or ¥92.84/$1, at the daily close. Looking back at the daily changes in the exchange rate of the Japanese Yen to AUD for the past year, the bank finds that the standard deviation of the spot exchange rate was 75.5 basis points.

The bank also holds a $1.5 million trading position in stocks that reflect the All ordinaries index. Over the last year, the standard deviation of the All ordinaries was 89 basis points.

The bank has to determine the DEAR of the portfolio to consider the impact that it can have on the financial position of the bank if the market shows the following current correlations among the assets:

	Ten-year zero-coupon	Foreign exchange contracts	Shares
Ten-year, zero-coupon bonds	N/A	0.1	0.3
Foreign exchange contracts	N/A	N/A	0.4
Shares	N/A	N/A	N/A

Calculate the DEAR for the trading portfolio for the Head of the Division using adverse rate changes in the 99^th percentile (12 marks).