Consider a bond with annual payments of $100, a principal payment of $1,000 in 10 years, and a cost of $1000. Assume a flat yield curve with a 10% yield-to-maturity and annual compounding.
(a) What is the Duration of the bond?
(b) What is the Convexity of the bond?
Suppose the yield of the bond now drops to 9.5%.
(c) What is the estimated percentage price change using both the Duration and Convexity measures?
(d) What is the actual percentage price change?