^True, traditional Bullet is Non-Callable.
yes i am really sorry, bullet by definition doesnt have option. I ment conventional callable bond which is not amortized. If there are no twists duration will be sufficient to hedge
CSK, you better truly mean it that you are sorry.
it is just for negative convexity instruments, it will be very ineffective because your hedge will have to be rebalanced, similar to delta hedge If you look at how 2 bond hedge is constructed it takes twists into account, so if there are no twists your second equation will be 0+0=0, and you would have unlimited combinations of 2 bonds you can use to hedge the instrument
bigwilly Wrote: ------------------------------------------------------- > CSK, you better truly mean it that you are sorry. i mean it 
apology accepted.
CSK, agree. To hedge callable bond we’ll use dynamic duration hedging (not two-bond hedge). Guys, by the way what interest rate do we use when we determine whether MBS exhibit negative or positive convexity: coupon rate (Schweser) or cash flow yield (CR) ?
Coupon rate is fine.
CSK, I think we were both incorrect. Callable bond is also senstitive for twists (though to the smaller etxtent comparing with MBS)
dunno if you all have already discussed this - couldn’t see it in the search posts i found, but… IMHO: the author gets it wrong in the reading. he keeps referring to the negative convexity being the problem when rates fall. in fact, its the different level of negative convexity in up/down market yield move direction that is the problem. as the cuspy coupon region goes from severe -ve to mild -ve to neutral to +ve convexity eventually as market yields rise (reverse order if fall), the MBS (and thus one-bond dynamic hedge) is market directional because the dynamic hedge gets worse faster in the falling yields direction. the negative convexity itself is not the issue. you would generate -ve dynamic hedging returns anyway when hedging a negative convexity instrument by shorting a positive convexity instrument, even one without cuspy region, i.e. noncallables. its a subtle point, but important to understand how this sucker works. i think bchadwick gets at it above in his post, in another good way to make sense of this.