Module 46.2: Interest Rate Risk and Money Duration Flashcards
What is key rate duration?
used to measure the impact on bond price given non parrellel shifts in the yield curve.
What does an increase in the bond’s maturity do to the interest rate risk?
increases interest rate risk because future payments are more sensitive to changes in the discount rate used.
What does an increase in a bonds coupon rate do to the interest rate risk?
decreases interest rate risk because more of the bond’s value will be from payments received sooner.
Will an increase in a bonds YTM increase or decrease the interest rate risk?
an increase in a bonds YTM will decrease its interest rate risk. Higher YTM means less sensitivity based on the price-yield curve.
Will adding a put or call option increase or decrease interest rate risk?
decrease interest rate risk as measured by effective duration.
What are the two approaches to calculating the duration of a portfolio?
1) calculate the weighted average number of periods until the portfolios cash flows will be received
2) take a weighted average of the durations of individual bonds in the portfolio
Why is the weighted average number of portfolio cash flows not used in practice to calculate portfolio duration?
because the cash flows are not known for bonds that contain embedded options. need to use effective duration for these.
What is the money duration of a bond position?
expressed in currency units. formula is
= annual modified duration x full price of bond position x par value of the bond.
What is the price value of a basis point (PVBP)
the money change in the full price of a bond when its YTM changes by one basis point, or .01%
Calculated by finding the current YTM, then adjusting by 1 point upwards and downwards and taking the average.
When will a bond have the lowest Macaulay duration?
The bond with the highest yield and shortest duration will have the lowest Macaulay duration.
