Interpretation of the Volatility Exercise -Pritesh Bari 16/157 1. Lower the coupon, higher is the Volatility of the Bond.

2.Higher the maturity of the bond, higher is the Volatility of the bond. The above to properties imply that if an investor expects the interest rates to increase , they should keep bonds with shorter maturity in portfolio. And investors who anticipate fall in increase rate should have long term bonds in their portfolio. PVBP chart will provide a scenario analysis for determining the sensitivity of the bond towards change in yield/interest rate. Also, PVBP chart can be used to find the exposure of the portfolio towards interest rate change. PVBP chart can be used to calculate DV01 which can be used to hedge the portfolio using: Price value of a basis point for bond to be hedged / Price value of a basis point for hedging vehicle) x Yield Beta For a small change in basis point , modified duration can be used to estimate volatility in the price. However, it assumes linear change hence it is inaccurate for large change in the yields. Convexity along with duration provides a good measure for volatility assuming parallel shifts portfolio yields. Interpretation of Bullet Barbel Exercise Barbell portfolio has higher convexity than bullet bond but same duration. As expected, Barbell has higher price movements compared to bullet. Hence if an investor anticipates yields to fall , investor should invest in barbell and vice versa. Hence from the exercises we observed the following properties:

Property 1: Price Volatility is not the same for All Bonds Property 2: Price Volatility Is Approximately Symmetric for Small Yield Changes Property 3: Price Volatility is not Symmetric for Large Yield Changes Property4: For Large Yield Changes Price Increases Are Greater than price Decreases