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Lecture Notes Fixed Income Portfolio Mgt

Lecture Notes Fixed Income Portfolio Mgt - Fixed-Income...

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Fixed-Income Portfolio Management
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Corporate Debt Instruments corporate bonds medium-term notes CP = commercial papers ABS = asset backed securities They have priority over common stocks in the case of bankruptcy.
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Bond Rating Duff and Phelps Credit Rating Co. Fitch Investors Service Moody’s Investors Service Standard & Poor’s Corporation
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Rating Moody’s S&P Fitch D&P Aaa AAA AAA AAA Aa1 AA+ AA+ AA+ Aa2 AA AA AA Aa3 AA- AA- AA- A1 A+ A+ A+ A2 A A A A3 A- A- A-
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Rating BBB or better = investment grade BB+ and below: speculative grade D to DDD default
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Inverse relationship between price and yield An increase in a bond’s yield to maturity results in a smaller price decline than the gain associated with a decrease in yield Long-term bonds tend to be more price sensitive than short-term bonds Bond Pricing Relationships
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As maturity increases, price sensitivity increases at a decreasing rate Price sensitivity is inversely related to a bond’s coupon rate Price sensitivity is inversely related to the yield to maturity at which the bond is selling Bond Pricing Relationships (cont’d)
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A measure of the effective maturity of a bond The weighted average of the times until each payment is received, with the weights proportional to the present value of the payment Duration is shorter than maturity for all bonds except zero coupon bonds Duration is equal to maturity for zero coupon bonds Duration
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t t t w CF y ice = + ( ) 1 Pr t w t D T t = × = 1 t period for Flow Cash CF t = Duration: Calculation (Macaulay’s Duration)
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8% Bond Time years Payment PV of CF (10%) Weight C1 X C4 .5 40 38.095 .0395 .0198 1 40 36.281 .0376 .0376 1.5 2.0 40 1040 sum 34.553 855.611 964.540 .0358 .8871 1.000 .0537 1.7742 1.8853 Duration Calculation (Table 16.3): 8% coupon bond; 10% YTM, priced at $ 964.54
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Price change is proportional to duration and not to maturity P/P = -D x [ (1+y) / (1+y)] Modified Duration D * = modified duration D * = D / (1+y) P/P = - D * x y Duration/Price Relationship
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8% Coupon Bond Yield to Maturity T=1 yr. T=10 yr. T=20 yr. 8% 1,000.00 1,000.00 1,000.00 9% 990.64 934.96 907.99 Price Change 0.94% 6.50% 9.20% Yield to Maturity T=1 yr. T=10 yr. T=20 yr.
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