Government of Canada Bonds

Complete the exercise, which follows. Teams should be prepared to present their solutions to the class.

A bond portfolio manager is following a rate-anticipation strategy with the goal of maximizing gains (minimizing losses) as of December 31, 2018. This manager outsources interest-rate forecasting relying on forecasts available to the public on the economics websites of Canadian banks. An example of such a site is http://www.td.com/economics .

The manager has four Government of Canada bonds (Canada’s) in the portfolio listed below with $10 million in each bond. The manager has come to your team for advice on how to adjust this portion of the portfolio in order to achieve capital gains (or to avoid losses) if the expected scenario materializes. The manager is not allowed to sell bonds short. The total investment in Canada’s at today’s prices will remain at $40 million so the manager has to reduce some positions in order to increase others.

Look on the TD Economics website or an equivalent website of your choice to obtain the latest forecasts for yields on 2, 5, 10 and 30-year Canada’s as of the end of December 2018.

Assuming that the manager makes no adjustments to the present portfolio calculate the prices of the four bonds and the total portfolio on December 31, 2018 based on your interest rate forecasts.

Based on your knowledge of the principles of bond pricing, and on the interest rate forecasts you obtained, adjust today’s portfolio position in order to maximize expected gains or to minimize losses to the expected value of the portfolio as of December 31, 2018. For each change you make, explain your rationale briefly.

Compare the portfolio values you obtained to determine the change in value of your portfolio strategy. Discuss the risks the manager faces with this strategy. Do you recommend that the strategy be implemented? Explain briefly.

While you were working on your recommendation, the manager received a call from a bond salesman offering to sell the Anheuser-Busch Inbev Wldw Regs 5% 04/15/2020 US dollar pay at today’s market prices. The salesman also recommended the Constellation Brands 6% 05/01/ 2022. Yields on these bonds are available at http://quicktake.morningstar.com/stocknet/bonds.aspx?symbol=bud and http://quicktake.morningstar.com/stocknet/bonds.aspx?symbol=stz. According to the salesman both of these bonds carry higher yields and will enjoy better price performance through December 2018 than the comparable Canada’s. The salesman recommends selling some Canada bonds and investing in one of these issues. Do you accept this recommendation? Explain your view. No calculations are required for this part.