Question

Explain how a bond portfolio manager may use the duration of the portfolio to pursue an active investment strategy.

Answer 1

A portfolio duration can be altered based on the forecast of the future level of interest rates and a manager who can accurately forecast these rates can adjust the duration. Duration is a measure of the interest rate sensitivities, and the duration of the portfolio can be increased if the interest rates are expected to fall and vice versa. A manager who has a bond market index as th benchmark, the portfolio duration can be increased relative to the benchmark index if the interest rates are expected to fall and vice versa. The duration can also be changed by swapping bonds in the portfolio for new bonds to achieve the targeted portfolio duration. The duration can also be altered by using interest rate future contracts.