fall from 2 percent.5 percent over the first 10 years of the bonds container store coupons 20 life. If the bond with prepayment or call option has a premium to be paid for the early exit then the convexity may turn positive. However as the yield graph is curved, for long-term bonds, the price yield curve is hump-shaped to accommodate for the lower convexity in the later term. This typical is for a bond which does not have a call option or a prepayment option.
This shows how for the same 1 increase in yield the predicted price decrease, changes if only duration is used as against when the convexity of the price yield curve is also adjusted. Simple: In addition to paying out the 20 each year, the investor will also benefit from the move in the bond price from 500 back to its original 1000 at maturity. So the price would decrease by only.64 instead.83. They however, do not take into account the non-linear relationship between price and yield. A single discount rate applies to all as-yet-unearned interest payments. There are also some bonds known as zero coupon bonds. It works the other way, too. Convexity measures the sensitivity of the bonds duration to change is yield. Hence when two similar bonds are evaluated for investment with similar yield and duration the one with higher convexity is preferred in a stable or falling interest rate scenarios as price change is larger. Yield, the yield of a bond is the amount or the percentage return that a bondholder can expect to obtain from investing in bonds.
The yield to maturity may change from year to year for any bond, depending on changes in the overall demand for bonds in the market.
Keep in mind that the coupon is always 2 percentthat doesnt change.
The bond will always pay out that same 20 per year.
So how does someone earn a 5 percent yield on a bond with a 2 percent coupon even in this situation?