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Reading 23 - Yield Curve strategies - extra item set questions PDF (Q14)

Apologies in advance as I know this is a very basic question…

The answer to Q14 says that (–MDeh × ∆yield) + [½ ×Convexity × (∆yield)2] to calc the expected change in price based on yield view.  That’s fine, I understand this part of the formula.  However it then plugs the numbers in and gets a completely different answer to me:

[–4.12 × –0.55%]+ [½ × 24.98 ×(–0.55%)2] = 2.3%

The answer should be 6.04% shouldn’t it?  If anyone can confirm it would be much appreciated as this has been driving me slightly crazy for the past hour!

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2.3% is correct 

to this all you do is add 1.84% (given in problem) + 0.46% to arrive at 4.6%

I’m an idiot….thank you

Shouldn’t 4.92(MD) be used?

hi,

i’m confused, why wouldn’t we use the Modified Duration, i saw no mention of options so I don’t understand why ED has been used here. 

Also, what’s the part about adding the rolling yield with the coupon rate, i haven’t seen that before?

1.84% + 0.46% = 2.30% ??

pchris89 wrote:
hi,

i’m confused, why wouldn’t we use the Modified Duration, i saw no mention of options so I don’t understand why ED has been used here.

If effective duration and modified duration differ, you always – always! – use effective duration.

They don’t have to mention options.  If effective duration and modified duration differ, then cash flows change when YTM changes.  It may be that some of the bonds have embedded options, or it may be that some of the bonds are floaters.  Why the cash flows change isn’t relevant to the calculation: when effective duration and modified duration differ, use effective duration.

Simplify the complicated side; don't complify the simplicated side.

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