HW_Bond_ED_Hedge() function  Previous topicNext topicFirst topicLast topic

HW_Bond_ED_Hedge() function

HW_Bond_ED_Hedge(argument list…)

This function tells one the number of Eurodollar futures (or BAX or BAR) needed to hedge a given bond position. The continuously compounded forward rate curve is shocked by an amount needed to change the Eurodollar futures level by one tick (i.e. $25). Then, this parallel forward curve shock is applied to a segment of the zero curve (depending on the Fwd_Buck_Dir argument), and the bond is priced with and without the shock (in actuality, we take a positive and negative shock of one basis tick, and average the effect on the bond price). Given the change in the bond price, and the position one holds in the bond (position given in terms of face value, not market value), it is straightforward to calculate the number of futures needed to hedge the position. Note that Curve_Type through Bucket_Shift arguments only affect the base curve used to price the bond. The forward curve shocks are in addition to this base curve. The function uses the following arguments:

Argument Description Restrictions
Valuation_Date valuation date (e.g. today) valid Excel date number
Fut_Exp futures expiry date for the contract that is being shocked valid Excel date number
>= Valuation_Date
Dep_Expiry the maturity date for the expiry of the LIBOR deposit which begins at the expiry of the futures. In order to ensure coverage of the entire curve, it is useful to use the expiry of the following Eurodollar contract as the Dep_Expiry. valid Excel date number
> Fut_Exp
Dep_Days the number of days in the deposit period, according to the day count basis > 0
[typically 90 or 91]
Dep_YB the year basis for the deposit rate 360 or 365
ED_Quoted_Level the quoted level for the Eurodollar contract < 100, >0
[typically something between 92 and 97 given typical interest rates]
Settlement_Date bond settlement date valid Excel date number
>= Valuation_Date
Maturity_Date bond maturity date valid Excel date number
>= Settlement_Date
Coupon annual bond coupon in decimal form (e.g. six percent entered as 0.06). For zero coupon (strip) bonds, enter 0. >= 0
Freq number of bond coupons per annum 1, 2, 4, or 12
DCB day count basis 0 = 30/360 (US)
1 = act/act for US T-Bonds
2 = act/360
3 = act/365
4 = 30/360 (European)
5 = Cana
dian modified act/365
Curve_Type defines how the Zero_Rates array is to be interpreted 0 = continuously compounded riskless rates in, decimal form
1 = discount factors (first must be 1
.0, and must be declining)
Interpolation the interpolation method to employ for the Zero_Rates array 0 = cubic-spline
1 = linear
2 = log-linear
Zero_Dates array of zero coupon curve dates strictly ascending order
The first date of this array must be Valuation_Date
Zero_Rates an array of zero rates or discount factors corresponding to Zero_Dates
OAS parallel shift of the zero curve in decimal form
Bucket_Start beginning of bucket for zero curve shifts set to 0 if curve shift is not desired
Bucket_End end of bucket for zero curve shift >= Bucket_Start
Bucket_Shift parallel shift of the zero curve between Bucket_Start and Bucket_End in decimal form set to 0 if curve shock is not desired
Fwd_Buck_Dir the method used to shock the forward rate curve; -1 should be used for the nearest futures contract (in order to capture the effect from stub rate to the first futures date); 0 should be used for "middle" contracts, and 1 should be used for the final contract (in order to capture shocks beyond the final futures contract) -1: applies the forward rate shock from valuation date until the Dep_Exp date

0: applies the sho
ck only from the Fut_Exp date until the Dep_Exp date

1: applies the shock from the Fut_Exp date
Bond_Notional the face value of the bond position, with positive values indicating long positions and negative values indicating short positions; note that one should enter the FACE VALUE of the position, and not the market value

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