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Portoflio and Risk

Suppose you owned a portfolio consisting of $250,000 worth of long-term U.S. government bonds.

a. Would your portfolio be riskless?

b. Now suppose you hold a portfolio consisting of $250,000 worth of 30-day Treasury bills. Every 30 days your bills mature, and you reinvest the principal ($250,000) in a new bach of bills. Assume that you live on the investment income from your portfolio and that you want to maintain a constant standard of living. Is your portfolio truly riskless?

c. Can you think of any asset that would be completely riskless? Could someone develop such an asset.

Solution Preview

a. While U.S. government bonds are in the most liquid market of all securities and backed by a government guarantee and insurance on the face value, they are not riskless. When interest rates go up, bond prices go down so bonds are most liquid when they are first issued. Thus, if interest rates go up, bond prices will go down and the holder will get significantly less for them and while the face value ...