Debt products Flashcards
modified duration’ a more useful measure of bond price volatility?
i. Tells you in PERCENTAGe terms how much the price of a bond would be affected by 1% change in market interest rates
ii. If a bond has a duration of 5, and interest rates change by 1%, we would expect the bond price to change by 5% , 1%*5, in the opposite direction of course.
- If a bond has a modified duration of 7.3 and interest rate go down by 0.5%, we would expect the value of the bond to go up by 3.65%, if convexity is 50.8, would you expect the bond to go up more than 3.65% or less?
i. More than 3.65
ii. Convexity is your friend, if the bond price goes up, CONVEXITY would make it go up more; if the bond price go down, Convexity would make it go down less.
债券凸性（英語：bond convexity）在金融学中是指债券价格与利率间非线性关系的一种量度，表示为债券价格对利率的二阶导数，即价格－利率曲线的弯曲程度。 与其相关的一个概念为债券久期，表示为价格对利率的一阶导数，即价格－利率曲线的斜率。 对久期相同的两个债券，当利率下降时，凸性大的债券价格上涨幅度更大
- What type of Bond portfolio does the following statement describe? HALF of the portfolio has a short duration, and the other half has a long duration, but the average is still the same as the bullet portfolio.
i. Barbell portfolio – half of the protfoio has short duration and the other half has long duration
ii. If Bullet Portfolio- all bonds in the portfolio have the same duration
- What are the stated goals of the government’s monetary policy
i. Ensuring price stability
ii. Fostering sustainable economic growth
iii. Increasing and maintaining employment
iv. Maintaining stable international financial transactions
- What is Fiscal policy
i. GOVERNMENT can use fiscal policy—spending and taxation to influence the economy
ii. When economy is doing poorly, government can spend more, investing in road, service, Canadian back to work. Then we spend earnings, create jobs, stimulates the economy
iii. Conversely, when economy is doing well, government can tax more. This will keep the economy form moving too fast and keep inflation in check
- What two variables does duration consider?
i. Term to maturity and the coupon rate
ii. 3 main type of duration—
• macaulay duration,
• modified duration,
• and dollar duration
- Does duration indicate which direction the bond price would move?
i. No
ii. Duration tells you how much the bond price would be expected to change per 1% change in interest rates
iii. It doesn’t tell direction , that of course is impacted by the inverse relationship btw interest rates and bond prices
- What is the difference btw intermarket spread strategies and intramakret spread strategies
i. Intermarket Spread Strategies—these strategies attempt to capitalize on the differences in yield spreads btw different sectors of the bond market
ii. Interamarket spread strategies—these strategies attempt to capitalize on relative mispricing of two bonds that are generally similar but are form different issuers in the same business section, they are also substitution swaps
- What is laddering – Building a portfolio of debt securities with staggered maturities
- Passive bond strategies are either ‘indexing’ and ‘laddering’, explain each
i. Indexation – involves buying investments that mimic a certain index. An indexed bond portfolio does not necessary mean buying all the bonds in index, instead it can be done by buying a sampling of the index.
ii. Laddering means building a portfolio of debt securities with staggered maturities. The goal is for the portfolio to achieve a consistent return over all interest rate cycles.
The spread btw two equivalent term bond is determined by
o Credit Risk – if bond has higher risk of not making interest or Princip payments, you would expect a much higher yield return to invest in that bond. Like other investment, the higher the risk, the higher return you will expect
o Liquidity Risk: the risk of whether an investment can be sold at a fair price on reasonably short notice. I
If no liquidity in MKT, a seller may have to accept an unreasonable low price in order to sell it
o Option Risk – bonds have options or features associated with the, Perhaps a bond is callable, or extendible or convertible, has a sking fund….etc.
If the option is to the “Issuer’s benefit, the investor will likely expect a higher yield to compensate for this negative option
If the option is to investor’s benefit, a lower yield will likely be acceptable
Bond has duration of 3.5 and Convexity of 90…if yield in the market increase 2%, what is approximate .price change of this bond?
Formula of Percentage price change due to CONVEXITY = (Convesity/2) X Change in Yield ^2—this the correction by Convesity
Total price change will be During Change (Duration X Change in Yield) + Convexity Change
total price change will be Duration 3.5 X Change in Yield = 7%+1.8=8.8, in this case, price drop 8.8
Regarding Duration: Long term bonds are move volatile (affected by IR change) than short-term bonds.
• Low Coupon Bonds are more volatile thank high coupon bonds
How are the Off-the Run Canadian Government Bonds and Canadian Non-government bonds are priced in the market Price
• Based on Yield spread over benchmark government of Canada bonds
• GOC Bond no credit risk, they can raise tax to pay interst
• Corporate bonds is risker..offer a greater yield than GOC, yield is based on the yield of bench market GOC bonds + a pread
