Question

Suppose the market expects low future interest rate volatility, while you expect the opposite (high volatility)....

Suppose the market expects low future interest rate volatility, while you expect the opposite (high volatility). Would this be a good or a bad time for you to be purchasing bonds with high convexity?

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Answer #1

No, this is not a good time to purchase bonds with high convexity. As bonds with high convexity are very sensitive to the interest rate changes in the economy. So, if i buy this bond, and according to my expectations if there exists high volatility in the market , then the price of these bonds will fall more if the intersest rate rise in compariosn to those bonds with a lower convexity . So, the bond holder may suffer a larger loss due to the high convexity feature in the bonds.

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