What is the Dollar Period
The dollar duration measures the dollar industry in a bond’s worth to a change available in the market interest rate. The dollar duration is used by professional bond fund managers as a way of approximating the portfolio’s interest rate likelihood.
Dollar duration is without a doubt one in all a lot of different measurements of bond’s duration, As duration measures quantify the sensitivity of a bond’s worth to interest rate changes, dollar duration seeks to file the ones changes as an actual dollar amount.Â
Key Takeaways
- Dollar duration is used by bond fund managers to measure a portfolio’s interest rate likelihood in nominal, or dollar-amount words.
- Dollar duration calculations can be used to calculate likelihood for a lot of fixed income products similar to forwards, par fees, zero-coupon bonds, and so on.
- There are two number one obstacles to dollar sessions: it’s going to result in an approximation; and it assumes that bonds have fixed fees with fixed duration expenses.
Basics of Dollar Period
Dollar duration, often referred to as money duration or DV01, is in line with a linear approximation of the way in which a bond’s worth will industry in response to changes in interest rates. The actual relationship between a bond’s worth and interest rates is not linear. Because of this reality, dollar duration is a not quite perfect measure of interest rate sensitivity, and it will easiest provide a right kind calculation for small changes in interest rates.
Mathematically, the dollar duration measures the industry inside the cost of a bond portfolio for every 100 basis degree industry in interest rates. Dollar duration is regularly referred to formally as DV01Â (i.e. dollar worth in keeping with 01). Take note, 0.01 is very similar to one %, which is regularly denoted as 100 basis problems (bps). To calculate the dollar duration of a bond you need to grasp its duration, the prevailing interest rate, and the industry in interest rates.
             Dollar Period = DUR x (∆i/1+ i) x P
where:
- DUR = the bond’s straight away duration
- ∆i = industry in interest rates
- i = provide interest rate; and
- P = bond worth
While dollar duration refers to an individual bond worth, the sum of the weighted bond dollar sessions in a portfolio is the portfolio dollar duration. Dollar duration can also be performed to other fixed income products as well that have prices that adjust with interest rate moves.
Dollar Period vs. Other Period Methods
Dollar duration differs from Macaulay duration and adjusted duration in that modified duration is a price sensitivity measure of the yield industry, this means that this is a good measure of volatility, and Macaulay duration uses the coupon fee and measurement plus the yield to maturity to guage the sensitivity of a bond. Dollar duration, on the other hand, provides a easy dollar-amount computation given a 1% industry in fees.
Limitations of Dollar Period
Dollar duration has its obstacles. At first, because of this is a harmful sloping linear line and it assumes the yield curve moves in parallels the result is easiest an approximation. On the other hand, if when you’ve got a large bond portfolio, the approximation becomes a lot much less of a limitation.
Any other limitation is that the dollar duration calculation assumes the bond has fixed fees with fixed duration expenses. On the other hand, interest rates for bonds range in line with market prerequisites along with the appearance of synthetic gear.
