TAILIEUCHUNG - HEDGING BOND RISK WITH INVERSE ETFs

When interest rates fall steadily and continuously, corporations may be able to save money by refunding their existing bond issues. According to Boyce and Kalotay [2], the accepted wisdom is to refund a bond issue when interest rates fall 1% below the coupon rate on the existing bond. However, the refunding decision is in reality a complicated one. Whether it is financially viable to refund a bond issue depends on many factors, including the magnitude of the decline in interest rates, the call premium, flotation costs, overlapping interest and the corporate tax rate, and all of these factors should be considered in the decision making. | Hedging Bond Risk with Inverse ETFs STRATEGY INSIGHTS Your Bond Portfolio May Be At Risk Over the last decade investors increasingly have been drawn to bonds. Bonds are often viewed as a critical component of a diversified asset allocation strategy potentially providing a steady income stream and stability to a portfolio. Bonds have performed well over the past 30 years. The 10-year . Treasury Bond returned approximately annually from 1981 to 2011 outperforming the S P 500 s annualized return of . But bond prices don t always go up. Bond investors may be exposed to more risk than they realize. They may not know what to do about it. Here we discuss a strategy that may help cushion a bond portfolio if rising rates drive down bond prices. Source Bloomberg. Bond returns calculated using monthly Federal Reserve Board data from 12 31 80 to 12 31 84 and Merrill Lynch 7-10 Year . Treasury Index from 1 31 85 to 12 31 11. For illustrative purposes only. Past performance does not guarantee future results. Rates Up Bonds Down Bond prices and yields generally move opposite each other. As shown above bond yields fell to historically low levels as bond prices climbed. Recently experts have been raising concerns about the sustainability of low interest rates. If rates increase bond yields are likely to rise triggering potentially significant losses in bond portfolios. Measuring the Impact An increase in interest rates will generally drive down the price of a bond. To quantify the potential impact of rising rates on your portfolio it is helpful to look at duration. Duration reveals the sensitivity of the value of a bond or bond portfolio to a change in interest rates and the yields of securities with similar characteristics. Higher duration means greater sensitivity. For example the 30-year . Treasury Bond with a duration of 19 will be about twice as sensitive to a change in yield as the 10-year . Treasury Bond which has a duration of 9. So a 1 rise in the yield

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