Butterfly Strategies for Yield Curve Shape Changes
Consider the following portfolio of three securities.
| Maturity | Price | Weight | YTM | Effective Duration | Effective Convexity |
|-----|-----|-----|-----|-----|-----|
| 2 Year | 99.84 | 0.67 | 1.00% | 2.94 | 0.101 |
| 10 Year | 97.78 | -1.00 | 1.87% | 9.22 | 0.936 |
| 30 Year | 96.45 | 0.33 | 2.67% | 21.85 | 5.959 |
What yield curve movement would most likely benefit the portfolio's value the most?
Not so.
The portfolio duration, given the weighting, is only -0.0397. The price change would be negligible.
Right!
A flattening of the yield curve benefits barbell portfolios more than bullet portfolios. This portfolio is a butterfly with "long wings," meaning a long barbell, and a "short body," meaning a short bullet at the 10-year yield. This is positioned well for a yield curve flattening while being largely duration neutral, weighted at
$$\displaystyle 0.67(2.94) - 1.00(9.22) + 0.33(21.85) = -0.0397 $$.
No.
A yield curve steepening benefits bullet portfolios more than barbell portfolios, but that isn't the relative position of this portfolio.
A flattening
A steepening
A downward shift
