Hello, can someone help with the below?
Negative duration means that the party paying fixed in a swap will benefit from rising interest rates and falling market value.
Any explanation to this?
Thanks.
You have an agreement paying fixed. AND recieving floating. Floating increase, and you gain on the increase. Cost is fixed, income increase.
Most bonds have positive duration: when interest rates increase, the value of the bond decreases.
If you have a pay fixed, receive floating plain vanilla interest rate swap, when interest rates increase the value of your swap increases, just the opposite of a normal bond. Hence, your duration is the opposite of a normal bond’s duration: it’s negative.
Got it!! Thanks so much!!
Usually the duration of a floating rate bond is 1 or less - as the coupon readjusts every year (or if semi-annual, twice a year). The duration of the fixed rate bond is usually higher than 1 (unless you’re in the final year of the bond) - it is the money weighed time to maturity of the bond. So in a pay fixed, receive floating swap, you’re (equivalently) long a bond with duration 1 or less, and short a bond with duration higher than one, hence overall you have negative duration.