hard · Certified Financial Planner General Principles
The Brennan family is concerned about the impact of interest rate changes on their 500,000 bond portfolio, which has a duration of 7.2 years.
If interest rates rise by 100 basis points, which of the following best describes the expected change in the portfolio's value accounting for convexity?
- The portfolio value will drop by exactly $36,000.
- The portfolio value will increase slightly because the positive convexity of the bonds offsets the negative duration.
- The portfolio value will drop, but the actual loss will be slightly less than $36,000.
- The portfolio value will drop by more than $36,000 because duration understates price sensitivity in a rising rate environment.
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