Question

What purpose do futures have in the context of portfolio management? There are many reasons to use futures, such as efficiency of trading, but what is the primary reason why a portfolio manager wants to have futures available in the day-to-day management of a fixed income portfolio?

Assuming a $100 million market value fixed income portfolio, how much would one future add or detract from a portfolio in terms of interest rate risk? Please provide an answer for both going long and short. Also assume the Future is a 10 Yr Note Future, notional value is $100,000 and the underlying asset is a 6.5% coupon with a 15 year maturity.

What would be the value of ????

Answer 1

Risk & Return of the portfolio is impacted by Future Contracts. In fact Long (short) in futures is equivalent to subtracting (adding) cash from (to) the portfolio. Long (Short) exposure increase (decrease) the exposure of the portfolio exposure.

In today’s world, Long and short positions in appropriate futures contracts can quickly and easily change the portfolio asset mix at lower transaction cost than trading securities.

It can lead to proper stock/Bond Mix in a multiple manager environment.

They can be used to control the cash flow from the portfolio.

This can be measured by Effective duration

PV@(Increase in interest rate)- PV@(decrease in interest rate)/(2* PV@(today’s rate)* change in interest rate)

Since in the Given Question

Future value of                 asset $100,000

Coupon Rate 6.5%

Time to maturity 15 years

Value= Future value/(1+rate)^t

         = $100,000/(1.065)^15

         =$38,882