The sensitivity of a bond to a general change in interest rates is usually captured by assuming that the bond price changes in response to a change in its yield, which is driven by the general level of rates. The responsiveness of a bond price to a yield change is captured in two ways: duration and basis point value.
Duration is a measure of the size and timing of the cash flows paid by a bond. It quantifies these factors by summarizing them in the form of a single number, which is interpreted as an average maturity of the bond. To speak in terms of an average maturity of a bond of a given specific maturity sounds somewhat strange, but remember that a coupon bond is really just a combination of zero-coupon bonds. The average maturity of these component zero-coupon bonds is the duration. The average is not an ordinary average but a weighted average, with the weights based on the present values of the respective cash payments on the bonds. Hence, the weights are not equal, and the large principal repayment places the greatest emphasis on the final payment.
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Measuring the risk of a bond portfolio
A Bright Spot in the Dismal Housing Market
The housing market has taken a biog hit over the past 6 months, with the prices of houses tumbling and overall inventories of unoccupied homes increasing in many major markets including Florida, New Jersey, and Arizona. As mortgages start to adjust from adjustable rate mortgages, the payments are sometimes too high for owners and the home values too low to refinance as anticipated. This has led to ongoing foreclosures throughout the country. As the amount of empty homes increases, the money and resources spent to build new homes decreases. As soon as unoccupied inventory starts to sell, we may see a rapid increase in new home building.
The most recent house market predictions indicate a rise in new home starts and point to the fact new home building permits increased almost 9 percent in June. This indicates more activity than anticipated in building and gives rise to the hope of a developing trend toward sold homes and new home construction. This would be a leading indicator of positivity regarding the economy and an indication of consumer confidence. This trend counters past theories that the downward trend will continue through the next three months and that inventories will increase and new home building will continue to decrease.
The economic state that we are currently in plays a large role in the current overall housing decline from last year as many are jobless and others are forgoing any new home purchases due to lack of funds or credit issues related to their debt load. As the economy improves, we should see an increase in home purchases which will most likely be followed by an increase in new home construction. As people get back on their feet and find new jobs or ways to refinance their adjustable mortgages, the spending increase will have a dramatic effect on each individuals buying power and the home market in general.