1 / 12

Mastering Fixed-Income Investment Strategies

Learn active and passive bond management, bond pricing relationships, duration calculation, price sensitivity, and immunization techniques. Understand convexity's impact on pricing errors and active bond swapping strategies.

maia-benjamin
Download Presentation

Mastering Fixed-Income Investment Strategies

An Image/Link below is provided (as is) to download presentation Download Policy: Content on the Website is provided to you AS IS for your information and personal use and may not be sold / licensed / shared on other websites without getting consent from its author. Content is provided to you AS IS for your information and personal use only. Download presentation by click this link. While downloading, if for some reason you are not able to download a presentation, the publisher may have deleted the file from their server. During download, if you can't get a presentation, the file might be deleted by the publisher.

E N D

Presentation Transcript

  1. Chapter11 Managing Fixed-Income Investments

  2. Managing Fixed Income Securities: Basic Strategies • Active strategy • Trade on interest rate predictions • Trade on market inefficiencies • Passive strategy • Control risk • Balance risk and return

  3. Bond Pricing Relationships • Inverse relationship between price and yield • An increase in a bond’s yield to maturity results in a smaller price decline than the gain associated with a decrease in yield • Long-term bonds tend to be more price sensitive than short-term bonds

  4. Bond Pricing Relationships (cont.) • As maturity increases, price sensitivity increases at a decreasing rate • Price sensitivity is inversely related to a bond’s coupon rate • Price sensitivity is inversely related to the yield to maturity at which the bond is selling

  5. Duration • A measure of the effective maturity of a bond • The weighted average of the times until each payment is received, with the weights proportional to the present value of the payment • Duration is shorter than maturity for all bonds except zero coupon bonds • Duration is equal to maturity for zero coupon bonds

  6. Duration: Calculation

  7. Duration Calculation

  8. Duration/Price Relationship Price change is proportional to duration and not to maturity DP/P = -D x [D(1+y) / (1+y) D* = modified duration D* = D / (1+y) DP/P = - D* x Dy

  9. Uses of Duration • Summary measure of length or effective maturity for a portfolio • Immunization of interest rate risk (passive management) • Net worth immunization • Target date immunization • Measure of price sensitivity for changes in interest rate

  10. Pricing Error from Convexity Price Pricing Error from Convexity Duration Yield

  11. Correction for Convexity Modify the pricing equation: Convexity is Equal to: Where: CFt is the cashflow (interest and/or principal) at time t.

  12. Active Bond Management: Swapping Strategies • Substitution swap • Intermarket swap • Rate anticipation swap • Pure yield pickup • Tax swap

More Related