Question

a. Footnote 2 in the chapter presents the formula for the convexity of a bond. Build a spreadsheet to calculate the convexity of the 8% coupon bond in Spreadsheet 11.1 at the initial yield to maturity of 10%.

b. What is the convexity of the zero-coupon bond?

Short answer

Answer

a. 8.939838

b. 9.917353

Step-by-step solution

Step by Step Solution Step 1: Given information

Coupon = 8%

Yield to Maturity = 10%

Calculation of duration of coupon bond

Calculation of convexity of coupon bond ‘a’

From the foot note 2, the formulae of Convexity = 1/ P (1 + y)²

=[10,279.189 / (950.263 x (1.10)²]

= 8.939838

Calculation of convexity of zero coupon bond ‘b’

As per spread sheet above, the three year maturity of zero bond coupon = 751.315

Hence its Convexity = 1/ P (1 + y)²x 1000 / (1 + y)^tx (t²+ t)

= 1 / 751.315 x (1.10)²x 1000 / (1.10)³x (3² + 3)

= 9.917353