Spread widening wiping out additional yield

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johntavv

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Reading 23, practice problem 22 says:
Exhibit 1
Japan Singapore US
Yield on 10 yr gov bond% 1.67 2.74 4.62
10 yr bond duration 9.12 8.19 7.79
For invstors that purchased 10-year USA notes, the spread widening in bp that will wipe out the additional yield gained for a quarter is closest to?
1. The answer uses the additional yield for US minus Japan per quarter = (4.62 - 1.67) / 4 =.7.75%. Then divide this by the higher of the two countries’ duration, 7375/9.12=8.09
But why are they using Japan, when the question doesn’t mention Japan?
2. Why do we use the higher of the two countries’ duration?
 
1. in the breakeven spread analysis you need to use the country with the highest duration (i.e., Japan).
2. i don’t really know why and the CFAI does not really provide an explanation other than that you just have to use the country with highest duration.
 
Also, the reason why you pick Japan over Singapore is because investing in Japan allows you to potentially earn a higher yield. The numerator is esentially a yield advantage. You want that term to be bigger.
But among the two countries used in the formula, the denominator has to be the country with highest duration.
 
1. The question mentions “investors that purchased 10-year US notes”. I presume that there are Singaporean investors who purchased 10-year US notes, Japanese investors who purchased 10-year US notes, and British investors who purchased 10-year US notes. The number for the Japanese investors is correct; the numbers for the Singaporean and British investors are incorrect.
2. Because the curriculum says to use the higher duration. It gives no explanation.
 
Magician ——- not related to this quesiton… but do you plan on releasing any more level 3 topics? The ones for level 1 and 2 were ESSENTIAL.
Thanks and hope you had a good weekend.
 
I do.
I’m up to my eyeballs at the moment writing classroom materials for Wiley for Levels I and II. As soon as I finish those I’m back to the website. Level III’s high on the list because I don’t have much there yet and have a lot I want to add.
Glad to help. Have a good weekend yourself!
 
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