POI – Bond Portfolio Management (T404) – Flashcards
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Passive portfolio strategies
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Strategy that usually has a lower rate of return. Usually done by indexing
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Interest rate anticipation
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Risky strategy that relies on uncertain forecasts. Objectives are met by adjusting portfolio's duration based on expected interest rates
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Barbell strategy
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Splits funds between short duration and long duration securities. This is the longer form of the dumbbell strategy
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Cushion bond
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High-yielding, long term callable bond, whose price is kept down near its call price
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Credit analysis
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Requires investor to conduct a detailed analysis of potential changes in a firm's default risk
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Fallen angel
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Bond that once was investment grade but has since fallen to junk bond status. These have lower default rates
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Yield spread analysis
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Analysis of departures from normal yield spreads as a basis for bond swaps
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Bond swaps
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Selling one bond and buying another simultaneously
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Pure yield pick-up swap
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Lower yielding bond is sold and a higher yielding bond is purchased. This usually increases the interest payment that is received
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Substitution swap
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Based on a short term disequilibrium in the yield spreads for two bonds that are perfect substitutes
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Intermarket swap
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Swap bonds that are no perfect substitutes (Treasuries for corporates)
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Tax swap
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Attempt to offset gains in one bond with the losses in another
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Pure cash matched dedicated portfolio
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Cash flows from all sources exactly match up in timing and size with the liability schedule
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Dedication with reinvestment
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Cash flows don't exactly match the liability schedule. Considers the impact of reinvested cash flows to meet payment requirements
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Horizon matching
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Cash matching is used for the short-term while duration immunization is used for the long-term to make the duration of the bonds equal to the duration of the liabilities
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Roll out
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Occurs when the time horizon is pushed out one year further into the long term time horizon
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Immunization strategies
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Attempt to generate a specified rate of return regardless of what happens to market rates during investment horizon. Balances reinvestment risk with interest rate risk (price volatility)
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Price volatility risk
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If bond is sold prior to maturity, the selling price may be different from the expected par price if the bond was held to maturity
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Reinvestment risk
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Changes in interest rates change the rate at which cash flows can be reinvested
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Contingent immunization
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Allows for active management while assuring a minimal return. Management sets a floor rate of return
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Cushion spread
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Difference between market rates and the minimum that investors are willing to accept
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Rate earned > floor rate
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Sign of active management
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Floor rate is reached
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Portfolio is considered to be immunized
