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1) Suppose that Regions Bank, a bank with= $250 million in total assets has found out that bank’s standardized, maturity-adjusted 12-month GAP is –$25 million. Board of directors is anxious that interest rates would soon be rising substantially across board; in fact, they desire to plan for a= 1% increase in interest rates over next year. Board has come to you to give a brief report of how bank might approach this circumstance. Give a summary of choices for managing bank’s exposure to interest rate changes, both on and off balance sheet. Incorporate discussion of how it might manage its exposure by using futures contracts, interest rate swaps, forward rate agreements, and options on T-bond futures. Be sure to describe specifics of each hedging strategy (e.g., how many contracts or how large of a position, etc.). Present information on these contracts is given:

i) Six-month $1,000,000 Eurodollar futures contracts are presently available; covariance between futures and spot interest rates is= 0.95 at the price of $995,000 each.

ii) 6 × 12 Forward rate agreements are being quoted at= 6%.

iii) 5-year swaps at 6% fixed against 6-month LIBOR are also available; modified duration of comparable 5-year T-notes is 3.0.

iv) Place options on bond futures are available with a delta of = –0.45 with customized duration of underlying T-bonds at 4.8 and are priced at $99,000 per $100,000 bond.

Basic Finance, Finance

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