Posted by **winkyD** on Tuesday, November 6, 2012 at 6:22am.

A dealer in government securities currently holds $875 million in 10-year Treasury

bonds and $1,410 million in 6-month Treasury bills. Current yields on the T-bonds

average 7.15 percent while 6-month T-bill yields average 3.38 percent. The dealer is

currently borrowing $2,300 million through one-week repurchase agreements at an

interest rate of 3.20 percent. What is the dealer's expected (annualized) carry income?

Suppose that 10-year T-bond rates suddenly rise to 7.30 percent, T-bill rates climb to

5.40 percent and interest rates on comparable maturity RPs increase to 5.55 percent.

What will happen to the dealer's expected (annualized) carry income and why?

Should this dealer have moved to a long position or a short position before the interest

rate change just described? Should the dealer alter his or her borrowing plans in any way? Please explain your answer.

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