Question

Company A currently holds dollar-denominated bonds and is expected to receive $ 1 billion in principal and interest in a year and six months later. In order to objectively grasp the situation exposed to foreign currency risk, we intend to apply the variance-covariance method. The maturity of dollar-denominated bonds traded on the market is 1 and 2 years, and the annual bond yields are 5% and 6%, respectively. In addition, the annual volatility of bonds was 0.5% and 0.7%, respectively, and the correlation coefficient was determined to be 0.4.
    ① Calculate the present value of each when mapping 1 billion to two bond periods.

    ② Assuming a normal distribution under the 99% confidence level, calculate the variance VaR and the non-variance VaR of the position.

Answer 1

ANSWER :

1. Amount expected to be received in 1 1/2 years =$ 1 Billion = 10000 Lakhs

2. Maturity periods of bonds = 1 and 2years

3. Annual bond yields are 5% and 6% respectively

4. Annual Volatility rate 0.5 % and 0.7% respectively

5. Correlation coefficient 0.4

Part 1. Calculation of the Present value

Present value = Future Value [1/((1+r)^n)]

a) Bond Period of 1 year

= 1 [1/((1+5)^1)]

= 0.167 BILLION

b) Bond Period of 2 years

= 1 [1/((1+6)^2)]

= 0.024 billion

Part 2 -

Variance = sigma square

99% is 6 sigma