Beatnik

I chose flat (absolute) 4%. It is just the reason being there was not convexity measure given.

And as you know... that duration is a linear measure (straight line) and convexity measure adjusts for the convexity of the curve. Without convexity given, we would not know where the increase or decrease would be greater or less than 4 %.

Moreover, I came across a similar question in the Schweser Q-Bank and the correct answer was an absolute number and not the greater or lesser than x number.

Hope this helps...

jim8z3

Wow, I guess it all depends on the answers they gave you. I don't remember this question very well. Does anyone remember the possible anwers exactly. If the answers were something like,

price change of 4%
little less than 4%
little more than 4%

based on the info from Conquistador07 ((200bp move)) everyone on this thread got it wrong. Everyone skipped over the 200bp move, me included most likely. And I bet they did this because there was a similar question in the Schweser Q-bank.

Nice catch dubpg47

mnieman

less than 4
more than 4
exactly 4

this is what I remember..

draz

dubpg47 Wrote:
-------------------------------------------------------
> I think wording was:
>
> An increase of more than 4%
> An increase of 4%
> An increase of less than 4%
>
> However, with that said I am not 100% sure.
> Bottom line is a 200bp rate increase would produce
> a DECREASE in price.

dubpg47,

Do you think the possible answer were more like badem's and the question asked what would be the % decrease in price?

Because I don't think they would ask you about an increase in yield and give you answers of "increases".


BTW, I'm pretty sure the answer was not 4 flat. Duration is the first derivative of the price-yield curve. As long as there are no options in the bond, any tangent line on the curve will never be above the curve. So basically, duration WILL ALWAYS underestimate your predicted bond price. 1 bp - 500bp, increase or decrease in yield, in theory it doesn't matter.



Edited 1 time(s). Last edit at Friday, June 12, 2009 at 06:00PM by spunboy.

nitoha

spunboy, I honestly can't remember the wording, what I wrote earlier is what I thought.

Does anyone else remember?

MonkeyBusiness

A few points as I see it.

- There was a 200 bp change in the yield
-For large bp changes, duration is a crap measure, hence why the convexity adjustment is necessary
-Just because convexity isn't given, doesn't mean it doesn't exist
-It is an option free bond, so therefore convexity is always positive
-It was an increase in yield of 200 bp, that means a decrease in price
-Duration is -4, but convexity is positive by rule
-Therefore the actual price change will be less than 4%.
-It isn't necessary for the CFA to trick us as the latest posts are thinking. Just look- using the question honestly is sparking a huge debate.

shootingstar

Convexity is much more sensitive to falling rates. Not sure.but it seems like this was an increase in rates according to the question...and with that being said..wouldnt the tangent line be much more flat and closer to the approximate for duration at that level of increase.

Not sure if I articulated that correctly, but it seems there is less difference in regards to convexity when rates are increasing compared to when rates are falling due to price sensitivity.

Kiakaha

vthomas Wrote:
-------------------------------------------------------
> I chose flat (absolute) 4%. It is just the reason
> being there was not convexity measure given.
>
> And as you know... that duration is a linear
> measure (straight line) and convexity measure
> adjusts for the convexity of the curve. Without
> convexity given, we would not know where the
> increase or decrease would be greater or less
> than 4 %.
>
> Moreover, I came across a similar question in the
> Schweser Q-Bank and the correct answer was an
> absolute number and not the greater or lesser than
> x number.
>
> Hope this helps...

===================
ditto here

pogo

well, option-free bond has always convexity and it is always positive which means price decreases less than what duration says. convexity says how duration changes when yield change, and even convexity is not constant and changes with yield change.

suyash1989

Guys, I suppose we all know what duration measures, and what convexity. we know the drawbacks etc, graphical presentation and can talk and write about it several pages.... it's about one tricky question, where the request is not clear , and you must quickly answer. I agree with spunboy about the Q-bank. guess what; I answered less than...and it was wrong, so when I encountered the question on the exam, as many of you did, I answered directly without thinking at all.....It's all about how CFAI wants us to understand the question, and not about what we know...