Duration

Question 1

what does duration directly measure?

Answer 1

interest sensitivity

Question 2

in the formula delta price / price, which rate should be used on the bottom and the top of the equation? look at formula sheet.

Answer 2

Top = the percentage change in interest
Bottom= previous interest amount

gives % value, remeber to convert to decimals if x by value of A or L

Question 3

how is duration used to protect bond portfolios in the case of an increase in i?

Answer 3

i increases, leads to a decrease in MV, shorten duration to minimise loss of value.

i decreases, leads to increase in MV, lengthen duration.

Question 4

how can banks reduce durations?

Answer 4

sell long bonds, buy short bonds
enter interests rate swap
securitize mortage loans

Question 5

how is the duration gap calculated?

Answer 5

(asset / total assets) x duration repeat for all assets and sum
repeat for liabilities
then Da-Dl

Question 6

how do you immunise the whole balance sheet?

Answer 6

set delta equity to zero

Question 7

what are the weaknesses of duration?

Answer 7

costly
immunisation is a dynamic problem
large i rate changes and convexity

Question 8

on a graph of price to yield, what about the line protects against interest rate changes?

Answer 8

more convexity / curvature