A newly issued bond has a maturity of 10 years and pays a 7% coupon rate (with coupon payments coming once annually). The bond sells at par value.

a. What are the convexity and the duration of the bond? Use the formula for convexity in footnote 7.

b. Find the actual price of the bond assuming that its yield to maturity immediately increases from 7% to 8% (with maturity still 10 years).

c. What price would be predicted by the modified duration rule (Equation 16.3)? What is the percentage error of that rule?

d. What price would be predicted by the modified duration-with-convexity rule (Equation 16.5)?

What is the percentage error of that rule? P-963