Convexity Calculation
Convexity Calculation
Convexity Calculation
https://www.wallstreetmojo.com/convexity-of-a-bond-formula-duration/
If the only modified duration is used:
Change in price = – Modified Duration *Change in yield
Change in price for 1% increase in yield = ( – 4.59*1%) = -4.59%
So the price would decrease by 41.83
To accommodate the convex shape of the graph, the change in price formula changes to:
Change in price = [–Modified Duration *Change in yield] +[1/2 * Convexity*(change
in yield)2]
Change in price for 1% increase in yield = [-4.59*1 %] + [1/2 *26.2643* 1%] = -4.46%
So the price would decrease by only 40.64 instead of 41.83
This shows how, for the same 1% increase in yield, the predicted price decrease changes
if the only duration is used as against when the convexity of the price yield curve is also
adjusted.
A 8%, 7 year coupon bond and a zero. The YTM is 12%.
1. Calculate the price of the bonds
2. Calculate the Macaulay, Modified and dollar duration of the bonds.
3. If the price changes by 1% then what will be the new price?
4. Do you think the price change calculated by duration is accurate? If not then calculate the corrected price change.
Bond
Coupon Rate 8%
Par Value 1000
Years Mat 7
YTM 12%
Modified Dollar Duration Change in Bond Price Δp = Δy x Change in Bond Price Δp = Δy x Change in Bond Price Δp = Δy x
Macaulay (4) (4) + 0.5*(6)*Δy2 (3) + 0.5*(7)*Δy2
Duration Dollar Covexity Convexity
Bond (1) Duration
(3) = (6) (7)
(2) Δy = .005 Δy = .01 Δy = .005 Δy = .01 Δy = .005 Δy = .01
(2)/(1+y) (4) = -P*(3)
A 5.4598 4.8748 -3984.8986 -19.9245 -39.8490 26026.653 31.8388 -19.5992 -38.5477 2.48% 5.034%
B 7.0000 6.2500 -282.7183 -1.4136 -2.8272 2019.416 44.6429 -1.3883 -2.7262 3.18% 6.473%