A tool used for fixed-income analysis determines the sensitivity of a bond’s price to changes in interest rates. This measurement, expressing the curvature of the relationship between bond prices and yields, provides a more accurate estimate of price changes than duration alone, especially for larger yield shifts. For example, if market interest rates fall, a bond with higher curvature will experience a greater price increase than a bond with lower curvature, all else being equal.
Accurate assessment of interest rate risk is critical for managing bond portfolios. This tool enhances risk management by providing a more nuanced understanding of how bond prices react to interest rate volatility. Historically, reliance on duration alone could lead to mispricing, especially during periods of significant interest rate fluctuations. The development of more sophisticated measurements like this addressed this limitation, allowing for more effective portfolio management strategies.
