Lecture 10 - Bond Portfolio Management I Flashcards
How are bond prices and yields are related?
Inversely/negatively.
An increase in a bond’s YTM results in a…
Smaller price change than a decrease in yield of equal magnitude (refers to convexity).
Prices of long-term bonds tend to be…
More sensitive to interest rate changes than prices of short-term bonds (refers to maturity).
How is interest rate risk and the bond’s coupon rate related?
Inversely/negatively.
The sensitivity of a bond’s price to a change is inversely related to…
The YTM at which the bond is currently selling
What is duration?
It is a measure of the average maturity of a bond’s promised cash flows.
Duration is a measurement of…
The interest rate risk/sensitivity and the effective maturity if bond is considered as a portfolio of promised cash flows.
Macaulay’s duration equals the…
Weighted average of the times to each coupon or principal payment.
Weight applied to each payment time is proportion to…
Total value of bond accounted for by that payment.
For a zero coupon bond, duration equals…
Maturity.
What kind of impact does coupon rate have on duration?
Negative.
Generally, duration and maturity are…
Positively related.
For highly discounted bonds, duration might be…
Negatively related to maturity.
For par bonds and premium bonds, duration and maturity are…
Positively related.
What kind of impact does YTM have on duration?
Negative. A lower YTM bond has a greater duration.
What are the duration rules?
Rule 1 - The duration of a zero-coupon bond equals its time to maturity.
Rule 2 - Holding maturity constant, a bond’s duration is lower when the coupon rate is higher.
Rule 3 - Holding the coupon rate constant, a bond’s duration generally increases with its time to maturity.
Rule 4 - Holding other factors constant, the duration of a coupon bond is higher when the bond’s YTM is lower.
Rule 5 - The duration of a level perpetuity is equal to: 𝐷=(1+𝑦)/𝑦
Convexity is measured as the…
Rate of change of the slope of the price-yield curve, expressed as a fraction of the bond price.
Bonds with higher convexity…
Exhibit higher curvature in the price-yield relationship.
Bonds with greater curvature gain more in price when…
Yields fall than they lose when yields rise.
The more volatile interest rates…
The more attractive this asymmetry.
Investors must pay higher prices and accept lower yields to maturity on bonds with…
Greater convexity.
