duration

Definitions (2)

1. The change in the value of a fixed income security that will result from a 1% change in interest rates. Duration is stated in years. For example, a 5 year duration means the bond will decrease in value by 5% if interest rates rise 1% and increase in value by 5% if interest rates fall 1%. Duration is a weighted measure of the length of time the bond will pay out. Unlike maturity, duration takes into account interest payments that occur throughout the course of holding the bond. Basically, duration is a weighted average of the maturity of all the income streams from a bond or portfolio of bonds. So, for a two-year bond with 4 coupon payments every six months of $50 and a $1000 face value, duration (in years) is 0.5(50/1200) + 1(50/1200)+ 1.5(50/1200)+ 2(50/1200) + 2(1000/1200) = 1.875 years. Notice that the duration on any bond that pays coupons will be less than the maturity because there is some amount of the payments that are going to come before the maturity date. In this example, the maturity was 2 years. Investors use duration to measure the volatility of the bond. Generally, the higher the duration (the longer an investor needs to wait for the bulk of the payments), the more its price will drop as interest rates go up. Of course, with the added risk comes greater expected returns. If an investor expects interest rates to fall during the course of the time the bond is held, a bond with a long duration would be appealing because the bond's price would increase more than comparable bonds with shorter durations.
2. More generally, an interval of time.

Use duration in a sentence

Browse by Letter: # A B C D E F G H I J K L M N O P Q R S T U V W X Y Z
tenure amortization method