The treasurer of the Atlas Corporation, Wanda Zinke, is going to bring a $10 million issue to the market in 45days. It will be a 25-year issue. The interest rate environment is highly volatile, and even though interest rates are currently 10.25 percent, there is a fear that interest rates will be up to 11 percent by the time the bonds get to the market.
(A) If interest rates go up by ¾ point, what is the present value of the extra interest this increase will cost the corporation? Use an 11% discount rate and disregard tax considerations.
(B) Assume the corporation is going to short September Treasury bonds at 105 3/32 (hint: 105.09375%). How many contracts must the corporation sell to equal the $10 million exposed position (Hint: Treasury bonds trade on units of $100,000? Round to the nearest whole number of contracts.
(C) Based on your answer in part (B), if Treasury bond prices increase by 2.8 percent of par value in each contract in response to an unexpected ½ point decline in interest rates over the next 45 days, what will be the total dollar loss on the future contracts?