Overview. This chapter discusses a market value-based model for assessing and managing interest rate risk: Duration Computation of duration Economic interpretation Immunization using duration * Problems in applying duration. Price Sensitivity and Maturity.
D = Snt=1[CFt• t/(1+R)t]/ Snt=1 [CFt/(1+R)t]
D = duration
t = number of periods in the future
CFt = cash flow to be delivered in t periods
R = yield to maturity.
D = Snt=1[t (Present Value of CFt/P)]
duration < maturity
[dP/P] [dR/(1+R)] = -D
dP/P = -D[dR/(1+R)] = -MD × dR
where MD is modified duration.
dP = -D[dR/(1+R)]P = -(MD) × (dR) × (P)
(dP/P)/(dR/R) = -D[dR/(1+(R/2)]
= -[5 - 3(90/100)]100[.01/1.1] = - $2.09.
CX = Scaling factor × [capital loss from 1bp rise in yield + capital gain from 1bp fall in yield]
CX = 108[DP-/P + DP+/P]
= 108[(999.53785-1,000)/1,000 + (1,000.46243-1,000)/1,000)]
Bank for International Settlements www.bis.org
Securities Exchange Commission www.sec.gov
The Wall Street Journal