Problem:

As a portfolio manager, you are monitoring previous investments that you made in stocks and bonds of U.S. firms, and in stocks and bonds of Japanese firms. Though you plan to keep all of these investments over the long run, you are willing to hedge against adverse effects on your investments that result from economic conditions. You expect that over the next year, U.S. and Japanese interest rates will decline, the U.S. stock market will perform poorly, the Japanese stock market will perform well, and the Japanese yen (the currency) will depreciate against the dollar.

a. Should you consider taking a position in U.S. bond index futures to hedge your investment in U.S. bonds? Explain.

b. Should you consider taking a position in Japanese bond index futures to hedge your investment in Japanese bonds? Explain.

c. Should you consider taking a position in U.S. stock index futures to hedge your investment in U.S. stocks? Explain.

d. Should you consider taking a position in Japanese stock index futures to hedge your investment in Japanese stocks? (Note: The Japanese stock index is denominated in yen, and therefore is used to hedge stock movements, not currency movements).

e. Should you consider taking a position in Japanese yen futures to hedge the exchange rate risk of your investment in Japanese stocks and bonds?

Additional Information:

This question is from Finance and it is about investment portfolio management. The question is about portfolio manager who monitors investments made in stocks as well as bonds of US and Japanese companies. The portfolio manager is speculating that US stock market will carry out poorly and Japanese stock market will perform better. Questions regarding hedging the investments have been given in the solution.