In general, for an upward-sloping yield curve, the immunization target rate of return will be less than the yield to maturity because of the lower reinvestment return. Conversely, a negative or downward-sloping yield curve will result in an immunization target rate of return greater than the yield to maturity because of the higher reinvestment return.

Source : Reading 20, 4.1.1.2

I cant find the rational. Any explanation is highly appreciated.

cpk123
April 4, 2016, 9:17pm
#2
please use the search function … and this has been discussed ad nauseum on the forum.

kos
April 4, 2016, 10:41pm
#3
From http://www.analystforum.com/forums/cfa-forums/cfa-level-iii-forum/91349096

quoting S2000

S2000magician:

If you look at my post (two above this one), you’ll see that the immunization rate is the minimum rate you need to earn to meet your objective. In that example, if we can earn exactly 3.5744% per year for three years, we’re fine. If we can earn more than 3.5744%, we’re on velvet: we’ll pay off our liability and have enough left over to throw a party.

The purpose of determining that 3.5744% is the immunization rate is to have a basis against which to compare our actual return. If we’re earning 3.5%, we should be worried; if we’re earning 4%, we should be delighted.

As for the yield curve: suppose that you have a par yield curve with the following rates:

1-year: 2.0%
2-year: 3.0%
3-year: 3.8%
4-year: 4.4%
5-year: 4.8%
6-year: 5.0%
You buy a 6-year, annual-pay bond with a coupon of 5% (so it’s selling at par). For you to earn 5% on your investment, you have to reinvest the coupons at 5%. If the par curve doesn’t change over the next year, then you’ll get a coupon payment, which you’ll invest for 5 years (the remaining time to maturity on your bond). However, the 5-year par rate is only 4.8%, not 5.0%. The next year, if the par curve doesn’t change, you’ll reinvest the coupon payment at only 4.4%. And so on.

The upshot: your realized yield will be less than 5%.

(Here’s a question: what, exactly, will it be?)