How can a manager reduce the duration of a portfolio, is not is an automatic calculation determined based on the prices and interest of the investments in the portfolio? Or it means that the manager changes the bonds in the portfolio?
The question is quite simple and you’ve asked similar questions such as how futures affects duration. The bond manager can change portfolio duration by doing many things:
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Change composition of the bonds by adding/removing
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Adding swaps
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Adding bond futures
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Adding forwards
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Inherently, if the bond portfolio is static, the duration will slowly tick down and the bonds mature
Does adding these derivatives shorten or lengthen the duration? Or it depends?
They can do either. You can shorten the duration with:
- A pay fixed, receive floating plain vanilla interest rate swap
- A short position in bond futures
- A short position in bond forwards
You can lengthen the duration with:
- A pay floating, receive fixed plain vanilla interest rate swap
- A long position in bond futures
- A long position in bond forwards
You’ll see this stuff in spades at Level III.