YEAR NOTE FUTURES CONTRACT BASED ON 100,000 PAR

10-year note futures contract based on 100,000 par:

BPV of CTD bond: 70.4589

Conversion factor of CTD bond: 0.8935

Fixed versus floating interest rate swap:

Fixed side BPV per 100 notional: 0.1437

Floating side BPV per 100 notional: 0.0050

...

A. Calculate the number of futures contracts Mulder will sell to adjust duration, based on his

expectations interest rates will increase. Show your calculations.

Grading Guide

Answer for Question 6-A

Sell contracts to lower duration.

Desired duration reduction: 6.8 - 5 = 1.8

Desired BPV of change: 1.8 (250,000,000) (0.0001) = 45,000

BPV of futures: 70.4589 / 0.8935 = 78.8572

Contracts to sell: 45,000 / 78.8572 = 571

Candidate discussion: Show your work. There are four issues that must be quantified in this

solution. 1 point for each one you correctly address. If you make a calculation error, you may

get partial credit for having the correct process. You can display the work in other ways if

you label and reach the right conclusion. Be sure to round the number of contracts to the

closest whole number.

(Study Session 10, LOS 22.b, c, d)

B. State the type of swap pay fixed or receive fixed that Mulder would use an alternative to the

futures transaction in Part A. Calculate the notional principal of the swap. Show your

calculations.

Answer for Question 6-B

A pay fixed swap.

Swap BPV per 100 NP: 0.1437 - 0.0050 = 0.1387

NP = 45,000 / (0.1387 / 100) = 32,444,124

Candidate discussion: Show your work. 1 point each for pay fixed and calculating the swap's

BPV (it can be shown as -0.1387 if desired). The 45,000 BPV change was calculated in Part A. 1

point each for setting up the NP calculation and 1 point for the correct final amount. Dividing the

swap BPV by 100 was one way to adjust for the fact that the swap BPV was given as per 100

NP.

C. Explain how Mulder could use a single swaption based on the swap in Part B to adjust his

interest rate risk and discuss two ways it would differ from using futures contracts.

Answer for Question 6-C

Buy a pay fixed swaption:

 There is an initial cost.

 The risk modification is asymmetric and the account can still benefit from the higher existing