RM 392 - Financial Modeling and Optimization

CLASS 24

Fall 2010

1. Learning Objectives

A. Today’s discussions

a. Bonds, Duration, Convexity, Immunization

b. Stochastic stock price models

B. Homework and reading assignment for this session.

a. Bonds, stochastic stock price models, multi-period asset allocation models

2. Benninga ch. 26-portfolio duration, immunization, and convexity

A. Buying a bond portfolio to fund a future obligation: pp. 695-696.

B. Each group derives an expression for the derivative of a bond portfolio with respect to yield to maturity (YTM). Initially, assume all bonds have the same YTM.

C. We discuss this as a class

D. We consider allowing the bonds to have different YTM’s

a. Parallel shifts in the yield curve

b. arbitrary shifts

c. scenarios of different shifts

E. Convexity of a bond portfolio

F. Immunization models

a. Each learning group studies the file “duration.xls”, under readings\fixed income investing.

b. We discuss it as a class.

3. Homework Assignment

A. Email the TA brief 1 to 2 paragraph proposals describing your term project. Include the names of the people who will work on it. Describe the topic, what you will do, and the deliverables.

B. Continue reading chapters 25-28 in Benninga on bonds. We will start on this in the next class.

C. Class next Thu is postponed. We will extend future classes by 30 min to make up for this.

D. Read the papers on our website under fixed income investing: “immun.gms” and finoptimmunizationmodels.pdf”