Floating Rate Decreases Portfolio Duration vs Fixed Rate

Can someone confirm/fix/further improve my logic here?

Why will an asset that receives floating rate payments likely have a lower duration than an asset that receives fixed rate payments?

My thought but I didn’t see this concept directly in the Derivatives section: If rates rise, the asset value declines. The rise in rates means you will collect a greater coupon payment, which puts more value earlier in the cash flows hence lowering duration and offsetting the asset price decrease (against a fixed payment)?

Recall that a bond that pays a coupon:

  • below its YTM sells at a premium
  • at its YTM sells at par
  • above its YTM sells at a discount

The easiest floating-rate bond to visualize is a risk-free bond that pays LIBOR: at every coupon date its coupon resets to LIBOR, which is its YTM (because it’s risk-free). Therefore, its price is always near par, so its (effective) duration is near zero (i.e., not much price change when its yield (LIBOR) changes).

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Makes perfect sense, thank you!

My pleasure.

I’m allowed to make perfect sense only once a week. You got lucky.