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A bond which has just been issued possess the below features : Coupon= Yield-to-Maturity (YTM) = Expiry =
4%
7 years
Macaulay Duration = 5 years
Required:
(a) Determine the modified duration based upon the above data.
(b) Modified duration is a better way to determine the bond's sensitivity to interest rate changes as compared to the expiry period of the bond. Do you agree with this statement ? Justify your stance by providing proper explanations.
(c) Determine the change's direction in modified duration under the following situations:
(i) The bond's coupon was 2%
(ii) The bond's expiry was 3 years
(d) Provide the definition of convexity and discuss how modified duration and convexity are used to determine dP/dI (P : Bond price, I: Interest rate).
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