E(R) of Buy-and-Hold Investor - CFA III

CFA Level III Fixed Income
#1

Which of the following statements best describes how the expected total return results would change if THB yields were to rise significantly over the investment horizon?

  1. A.Both the Buy-and-Hold and Yield Curve Rolldown expected portfolio returns would increase due to higher THB yields.
  2. B.Both the Buy-and-Hold and Yield Curve Rolldown expected portfolio returns would decrease due to higher THB yields.
  3. C.The Buy-and-Hold expected portfolio returns would be unchanged and the Yield Curve Rolldown expected portfolio returns would decrease due to the rise in yields.

Solution

C is correct. In a higher THB yield scenario in one year, the Yield Curve Rolldown expected return would fall since a higher THB yield-to-maturity in one year would reduce the price at which the investor could sell the 1-year zero in one year. The Buy-and-Hold portfolio return will be unaffected since the 1-year bond matures at the end of the investment horizon.

So for a buy-and-hold investor are the only components of return coupon income and FX g/l? not rolldown return or yield change or spread change?

#2

Yes.

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#3

Surely a change in benchmark yields that coupons can be reinvested at will change the expected return of the bond held to maturity, no?

#4

If it’s an annual-pay bond, it won’t matter, as the only coupon you’ll receive will be at maturity, one year from today.

If it’s a semiannual-pay bond, then, yes, you should expect the reinvestment income to increase a bit.

How often it pays coupons isn’t clear.

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