Duration measures the sensitivity of the price of the product/ value of the portfolio to changes in the interest rate. In order to limit the sensitivity the company needs to decide what the acceptable level of duration for the product/ portfolio should be. For example it may want the portfolio duration to be [...]
Tag Archives: Duration
An introductory course aimed at banking, corporate, treasury and sales teams that reviews intermediate and advance derivative products with afocus on marketing and sales applications. Participants work with product, sales, pricing and risk concepts applicable to derivative markets.
A working example of convexity and sensitivity calculation. Earlier we had reviewed the calculation process for Effective Duration. In this post we will see how convexity is calculated. We will also see how the Effective Duration and Convexity are brought together to estimate the % change in price brought about by a % change in [...]
A working example of effective duration calculation. Earlier we had reviewed the calculation process for Macaulay and Modified Duration. In this post we will focus on the steps for calculating Effective Duration.
Effective Duration is calculated using the following formula:
?i= change in yield = 1%
P0= Initial Price
P+= Price if yields increase by ?i
P-= Price if yields [...]
A working example of Macaulay & Modified duration calculation. Earlier we had considered the importance of the Duration risk metric to Asset Liability Management (ALM) and managing interest rate risk. In this post we will look at the specific mechanics of the Macaulay Duration and Modified Duration calculations.
Let us consider a fixed income instrument with the [...]
Impact of convexity
A normal shaped price-yield curve, such as the one given below, suggests that a bond’s price may not increase by the same absolute amount when interest rates fall by a certain % as when prices decrease due to an interest rate rise by that same %. This is because of the curvature or [...]
The Asset Liability Management (ALM) Crash course starts off with basic and core concepts and quickly delves into core tools including Gaps, Earnings at Risk and Cost to close reports. In addition to the traditional mismatch focus, the course also includes a short section on Liquidity Management as well as a related concepts section with [...]
Duration is a measure of how rapidly the prices of interest sensitive securities change as the rate of interest changes (see application example in the ALM section). For example, if the duration of a security works out to 2 this means that for a 1% increase in interest rates the price of the instrument will decrease by 2%. Similarly, if the interest rates were to decrease by 1% the price of the security would increase by 2%.
This section reviews the following Asset Liability Management (ALM) tools
Price Sensitive Gap
Net Interest Income (NII) at Risk
Duration Gap Analysis
Please see our new self study, self paced video based course on setting limits that walk through the process of setting, reviewing and linking limits including VaR, Stop Loss, PSR, Margin and Counterparty limits based on [...]
Asset Liability Management (ALM) involves taking decisions and actions regarding assets and liabilities in an integrated manner in order to manage the business of the entity and meet the organization’s financial objectives. It is a continuing process that involves formulating, implementing, monitoring and revising strategies related to its assets and liabilities keeping in mind the [...]