A $500 000 bond has a term to maturity of one year,with half-yearly coupons set at 8% p.a.Calculate the convexity of the bond in periods if the yield is 8%.

Question

Quizplus · Accepted Answer

The present value (PV)of the first cash flow (i.e.coupon payment of $20 000 received after six months)is $19 230.77,and the PV of the second cash flow (i.e.the second coupon and the face value of $500 000 after 12 months)is $480 769.23,which gives a bond price of $500 000 (note that this is expected,as the yield equals the coupon rate).The weights of the PV of each cash flow are $19230.77/$500000 = 0.038,and $480769.23/$500000 = 0.961,which can be inserted into equation 6.11,which gives a convexity of 2.923.

A $500 000 Bond Has a Term to Maturity of One