A mutual fund plans to purchase $500,000 of 30-year Treasury bonds in four month

Question

A mutual fund plans to purchase $500,000 of 30-year Treasury bonds in four months. These bonds have a duration of 12 years and are prices at 96-08. The mutual fund is concerned about interest rates changing over the next four months and is considering a hedge with T-bond futures contracts that mature in six months. The T-bonds futures contracts are selling for 98-24 and have a duration of 8.5 years. If interest rate changes in the spot market exactly match those in the futures market, what type of futures position should the mutual fund create (should they buy or sell treasury bond contracts)? Explain.

1 Amutual fund plans to purchase $500,000 of 30-year Treasury bonds in four months. These bonds have a duration of 12 years and are priced at 96-08132. The mutual fund is concerned about interest rates changing over the next four months and is considering a hedge with T-bond futures contracts that mature in six months. The T-bon contracts are selling for 98-24132 and have a duration of 8.5 years. If interest rate changes in the spot market exactly match those in the futures market, what type of futures position should the mutual fund create (should they buy or sell treasury bond contracts)? d futures

Explanation / Answer

The mutual fund needs to enter into a contract to buy Treasury bonds at 98-24 in four months. The fund manager fears a fall in interest rates and by buying a futures contract, the profit from a fall in rates will offset a loss in the spot market from having to pay more for the securities.

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