9.16 Duration and Coupon Payments: An Illustration of Duration Drift
Question
What happens to Duration after the full six-months have passed?
Answer
We need to make the following adjustments to the price and duration of the bond. Can you explain what the following represents?
New Price / PV:
$926.43
(27.92)
(558.40)
591.90
932.01 New price (after six months)
- This new (and higher) price represents Maturity Pull; the bond now has only nine periods to go to maturity. Discount bonds’ prices increase until maturity.
New Duration / PV (p): (after six months)
7,432.28
(279.20)
(5,584.00)
5,327.10 (9) (0.5919) (1,000)
6,896.18
(6,896.18 ÷ 932.01) ÷ 2 = 3.7 (The new duration)
- The original duration, you will recall, was (7,432.2878 ÷ 926.43) ÷ 2 = 4.01 (years).
- Over six months, duration goes down from 4.01 to 3.7 years, as it should, ceteris paribus.
- Duration Drift: Duration has drifted lower from coupon to coupon, i.e., over time.
- The calculations for Maturity Pull and Duration Drift are similar.
