Duration

Definition

Duration measures the sensitivity of a bond's price to changes in interest rates. It is expressed in years and indicates how long it takes for the price of a bond to be repaid by its internal cash flows.

5 Must Know Facts For Your Next Test

1. Duration is higher for bonds with longer maturities.
2. Lower coupon rates result in higher duration.
3. Zero-coupon bonds have durations equal to their maturity.
4. Duration helps assess interest rate risk.
5. Modified duration adjusts Macaulay duration for changes in yield.

Review Questions

• How does an increase in interest rates affect a bond's duration?
• Why do zero-coupon bonds have durations equal to their maturity?
• What is the relationship between coupon rates and duration?

Related terms

Macaulay Duration: The weighted average time until a bond's cash flows are received, measured in years.

Modified Duration: Adjusts Macaulay duration to estimate the percentage price change of a bond for a given change in yield.

Convexity: Measures the curvature or the degree of the curve in the relationship between bond prices and yields, improving accuracy over duration alone.