Presentation on theme: "Hedging Case You are contacted by a small regional bank to see if you would be interested in purchasing three mortgage loans. You called a friend at."— Presentation transcript:
Hedging Case You are contacted by a small regional bank to see if you would be interested in purchasing three mortgage loans. You called a friend at a larger bank and he told you that his bank will purchase three loans from you in two and a half months for an upcoming securitization transaction that is eminent. You decide that you will purchase the three loans today and sell them in two and a half months to your friend.
Hedging Case Before you purchase the loans, the seller tells you he will provide data and the terms of the sale for each loan. He then faxes you a sheet that has the following information on it… 1. Loan balance = 3,250,000, coupon = 7.5%, 12 bps servicing (servicing released), amortization term = 360, remaining term = 120, priced off the 10 year U.S. Treasury, spread = 225 bps 2. Loan balance = 5,500,000, coupon = 7.25%, 10 bps servicing (servicing retained), amortization term = 180, remaining term = 180, priced off the WAL, spread = 235 bps 3. Loan balance = 2,000,000, coupon = 8.375%, 15 bps servicing (servicing released), amortization term = 360, remaining term = 84, priced off the 7 year U.S. Treasury, spread = 300 bps
Hedging Case Question 1: The seller also asks you if you would indicate the price you would pay for each loan based upon current U.S. Treasury rates? Question 2: Your boss asks you to calculate the exact hedge you would recommend if you hedged these loans with U.S. Treasuries? Assumptions: Make sure that you update the U.S. Treasury Curve before answering Questions 1 and 2. Use the following assumptions: Settlement Date (11/19/2008) Input the current U.S. Treasury Coupons and Maturity Dates for each U.S. Treasury that is shown on Bloomberg http://www.bloomberg.com/markets/rates/index.html http://www.bloomberg.com/markets/rates/index.html Use the following U.S. Treasury Prices… 2 Yr Treasury Price (100-18+) 3 Yr Treasury Price (100-22) 5 Yr Treasury Price (102-02+) 10 Yr Treasury Price (100-17+) 30 Yr Treasury Price (105-12)
Hedging Case On the last day of class, be prepared to turn in the following: your hedging model; the three loans modeled up with their calculated price, WAL, modified duration, and DV01; and your recommended hedge.