Need help in understanding how Duration is calculated in below example from Investopedia.
Imagine a bond issuer, XYZ Corporation, with two bonds currently on the market: Bond A and Bond B. Both bonds have a face value of $100,000 and a coupon rate of 5%. Bond A, however, matures in 5 years, while Bond B matures in 10 years.
Using the concept of duration, we can calculate that Bond A has a duration of 4 years while Bond B has a duration of 5.5 years. This means that for every 1% change in interest rates, Bond A’s price will change by 4% while Bond B’s price will change by 5.5%.
This comes from " Convexity in Bonds: Definition, Meaning, and Examples" from “Investopedia”
Assuming that by “duration” they mean “modified duration” or “effective duration”, then their conclusion is close, but not perfect. Because of convexity, it’s likely that the changes will not be exactly 4% and 5.5%.
As to how they compute, let’s say, modified duration, they probably first compute Macaulay duration (multiply each time to payment by the present value of that payment, tot those up, then divide by the bond’s price), then divide that by (1 + YTM) to get modified duration, where YTM is the yield to maturity for one coupon period.
Be careful getting information from Investopedia; some of what’s there is inaccurate.
The example misses YTM information. In absence of that info, is it possible to compute Duration at all. If we assume it to be same as coupon, we land with duration close to the maturity period itself.