Finance
Yinkus811
Ch23P06BuildaModel.xlsmBuild a Model
| Solution | 7/16/15 | |||||
| Chapter: | 23 | |||||
| Problem: | 6 | |||||
| F. Pierce Products Inc. is financing a new manufacturing facility with the issue in March of $20,000,000 of 20-year bonds with semiannual interest payments. It is now October, and if Pierce were to issue the bonds now, the yield would be 10% because of Pierce’s high risk. Pierce’s CFO is concerned that interest rates will climb even higher in coming months and is considering hedging the bond issue. The following data are available: | ||||||
| Problem Inputs: | ||||||
| Size of planned debt offering = | $20,000,000 | |||||
| Anticipated rate on debt offering = | 10% | |||||
| Maturity of planned debt offering = | 20 | |||||
| Number of months until debt offering = | 5 | |||||
| Settle price on futures contract (% of par) = | 94.78125% | |||||
| Maturity of bond underlying futures contract = | 20 | |||||
| Coupon rate on bond underlying futures contract = | 6% | |||||
| Size of futures contract (dollars) = | $100,000 | |||||
| a. Create a hedge with the futures contract for F Pierce's planned March debt offering of $20 million. What is the implied yield on the bond underlying the future’s contract? | ||||||
| Value of each T-bond futures contract = | ||||||
| Number of contracts needed for hedge = | rounding = | |||||
| Value of contracts in hedge = | ||||||
| Implied semi-annual yield = | ||||||
|
1461: It can be calculated using the RATE function in Excel | Implied annual yield = | |||||
| b. Suppose interest rates fall by 300 basis points. What is the dollar savings from issuing the debt at the new interest rate? What is the dollar change in value of the futures position? What is the total dollar value change of the hedged position? | ||||||
| Change in interest rate on debt offering (basis points) = | -300 | |||||
| New interest rate on debt = | ||||||
|
1461: Start with anticipated rate and add change. Change is in basis points so divide by 10,000. | Value of issuing at new rate interest = | |||||
| Dollar value savings or cost from issuing debt at the new rate = | ||||||
| New yield on futures contract = | ||||||
| New value of each futures contract | ||||||
| Value of all fo the futures contract at new yield = | ||||||
| Dollar change in value of the futures position = | ||||||
| Total dollar value change of hedge = | ||||||
| c. Create a graph showing the effectiveness of the hedge if the change in interest rates, in basis points, is: -300, -200, -100, 0, 100, 200, or 300. Show the dollar cost (or savings) from issuing the debt at the new interest rates, the dollar change in value of the futures position, and the total dollar value change. | ||||||
| Change in rate | Dollar change in cost/savings of issue | Dollar change in value of futures position | Total dollar value change of hedge | |||
| Base -300 | ||||||
| -300 | ||||||
| -200 | ||||||
| -100 | ||||||
| 0 | ||||||
| 100 | ||||||
| 200 | ||||||
| 300 | ||||||
&F &A
Michael C. Ehrhardt Page &P &D
