Bond 1 callable at par, bond 3 plain 4% annual coupon bond, bond 6 One-year Libor annually, set in arrears The effective duration of Bond #6 is: A.lower than or equal to 1. B.higher than 1 but lower than 3. C.higher than 3.
I understand that float bond’s duration is every reset date, since duration measures the time to be paid at par value, so for bond 1, callable at par, how do we know whats the duration of callable at par, a year? or every callable date?
someone? thanks?
The duration of a callable bond depends on its coupon rate, its YTM, the time to its maturity, and its call price.
A 10-year callable with a coupon of 4% and a YTM of 8% will behave almost identically to a straight 10-year, 4% coupon bond with a YTM of 8%; its (effective) duration will be about 7.7 years.
How is the 7.7 calculated?
In Excel.
Seriously: you know how to calculate the effective duration of a straight bond. The formula’s a Level I topic. Figure out P0, P+, and P− for some ΔYTM and calculate it yourself.
The duration of a callable bond will always be less than a straight bond with no option. So the straight bond is the upper band, the floater has a duration of its resert day, a callable bond will be somewhere in between (for similar bonds)
I have seen a few versions of this question, you are basically just required to the concept of duration and understand how different versions of a similar secutity are changed. Duration is easy, convexity is a bit different for callable bonds when you are near the call price.
THAT!
Thanks!
How do I compare floater and callable bond again?
Floating-rate bonds have effective durations that are approximately the time remaining until the next coupon payment (and reset).
Callable bonds have effective durations that can be very long or very short, depending on the coupon rate, YTM, time to the next call date, and so on.