Question
Consider a two-year 8% coupon bond with a face value of $1000. Suppose that the yield on the bond is 10% per annum with continuous
Consider a two-year 8% coupon bond with a face value of $1000. Suppose that the yield on the bond is 10% per annum with continuous compounding. Coupons are semi-annual.
You perform the following calculations:
Time (years) | Cash Flow ($)
| Present Value of Cash Flow ($)
| Weight (PV of Cash Flow / Bond Price)
| Time x Weight, years
| Time2 x Weight, years2 |
0.5 | 40 | 38.05 | 38.05/960.15 = .040 | 0.5 (0.040) | (0.5)2 (0.040) |
1.0 | 40 | 36.19 | .038 | 1.0 (.038) | (1.0)2 (0.038) |
1.5 | 40 | 34.43 | .036 | 1.5 (.036) | (1.5)2 (0.036) |
2.0 | 1040 | 851.48 | .887 | 2 (.887) | (2.0)2 (0.887) |
Total |
| 960.15 |
| 1.88 | 3.68 |
Suppose the yield increases by 200 basis points (2%). Calculate the new value of the bond using both duration and convexity.
a. | 973.98 | |
b. | 965.31 | |
c. | 924.66 | |
d. | 958.34 |
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