An Improved Approach to Calculate the Yield and Duration of a Bond Portfolio
Journal of Applied Finance, Vol. 12, No. 2, Fall/Winter 2002
Posted: 7 Jan 2003
Abstract
This paper presents a new methodology to approximate the yield and duration of a bond portfolio. We demonstrate that the duration-weighted average yield consistently underestimates the exact yield on a bond portfolio having positive convexity. By considering the convexity, we present a new approximation formula for calculating the bond portfolio yield that can significantly reduce approximation errors. In addition, we find the value-weighted portfolio duration causes approximation errors that are systematically associated with the difference in bond maturities. A new approximation formula that takes convexity into account substantially reduces duration approximation errors.
JEL Classification: G10
Suggested Citation: Suggested Citation