Suppose that you want to short BUG’s outstanding ten-year, 5 percent coupon bond, but you can-not...

Suppose that you want to short BUG’s outstanding ten-year, 5 percent coupon bond, but you can-not find anyone willing to lend you the bond (to short). Given that US Treasuries and CDS trade, you can create a short position in BUG’s bond by: Select one: a. going long a ten-year CDS on BUG and buying a ten-year US Treasury bond b. going long a ten-year CDS on BUG c. going long a ten-year CDS on BUG and shorting a ten-year US Treasury bond d. going short a ten-year CDS on BUG e. going short a ten-year CDS on BUG and shorting a ten-year US Treasury bond

Expert Solution

Certificate of deposit(CD's) and bonds are considered safe haven investments. Both offer only modest returns but carry little or no risk of principal loss.

CD's are available from banks or credit unions and function like as much savings accounts.CD's are safe as an investments gets. In short, a CD is a great place to park some money you don’t need without fear that it will disappear.

Bonds are essentially a type of loan.They are issued by governments and companies to raise money. Highly rated bonds are as safe from losses as the entities that back them.

Now coming to the question the best option would be option (c) for going long a ten year CD'S on BUG and shorting a ten year US treasury bond. This would offset the effect of effect of 10yr 5% coupon bond of BUG.

Let us assume the face value of the bond be $1000

At the end of the maturity period the payment made would be more than $1000 definitely.

Hence in order to offset this postion 10 year CD's on BUG would a good option because the holder of the CD'S would be better off as CD'S bring more interest with them as compared to bonds. Hence at the end of 10year the holder of the CD'S would be in a profitable postion.

jeff jeffy answered 1 year ago

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