Duration and Immunization

Eliezer Prisman

Chapter 4 in Lecture Notes in Investment:Investment Fundamentals, 2020, pp 67-80 from World Scientific Publishing Co. Pte. Ltd.

Abstract: This chapter is dedicated to the study of the sensitivity of the price of bonds and portfolios of bonds to changes in interest rates. A measure of the sensitivity of bond prices to changes in interest rates, called duration, was first suggested by Macaulay in 1938. The field of fixed income securities has evolved tremendously since that time and the academic literature now criticizes this measure. As we proceed with the development and understanding of this measure, we will also gain insight into this critique. And while risk management methods based on durations are also subject to the same critique, empirical observations prove these methods to be quite successful. The literature mentions that pension funds and insurance companies that have used such methods over a few decades rarely missed their goals. Furthermore, we believe that this chapter will significantly help in developing the readers’ intuitions about interest rate risk and volatility of bond prices, thereby paving the way to more advanced models that are beyond the scope of this course.

Keywords: Equality Markets; Bond Markets; Investment Fundamentals (search for similar items in EconPapers)
JEL-codes: G10 G11 (search for similar items in EconPapers)
Date: 2020
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