13.5 years, 5%
10 years, 4.1%
11 years, 4.6%
Cash flow yield 3.20% 3.26% 3.59% 3.02%
BPV 7,476 7,215 7,474 7,471
Duration 6.33 6.11 6.34 6.32
Convexity 46.03 47.60 47.89 68.34
Group 2 of Qual-Mart's liabilities has already been immunized. Due to a recent reshaping of
the yield curve, the BPV of the immunizing portfolio has decreased from 31,678 to 29,324,
while the liability BPV fell to 31,207.
Bradley suggests that bond futures contracts could be used to close this duration gap. She
determines that the CTD bond for the long gilt future (a futures contract on U.K. government
bonds) has a BPV of 90.57 per contract (100,000 par), with a conversion factor of 1.1346.
Qual-Mart's treasury department has reported to Wilson that the company's cash holdings are
so sufficiently large that some debt liabilities could be retired. Wilson has identified a group 3
of liabilities where this would be possible, but he believes it will be more cost effective to
defease these liabilities by purchasing U.K. government bonds. Both the liabilities and the
bonds purchased could be removed from the reported balance sheet. The company's
accountants have determined that this will require a cash flow matching strategy to cover the
principal and interest payments on the liabilities.
Exhibit 3 details the payments due on these group 3 liabilities:
Exhibit 3: Debt Payments to be Defeased
March 2019 2,470,000
September 2019 1,780,000
March 2020 3,150,000
September 2020 2,675,000
March 2021 2,980,000
Exhibit 4 lists the U.K. gilts that are being considered for purchase. The gilts pay interest
semiannually in September and March. It can be assumed that the payment dates for the gilts
fall on or before the payments due on the debt to be defeased and that this is acceptable to
qualify for balance sheet defeasement.
Exhibit 4: Gilts Available for Purchase
Annual Coupon Maturity
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