Question

A Portfolio Manager at a Mutual Fund is evaluating two bonds, Bond A and Bond B, both of which have the same Modified Duration of 7.5 years. However, Bond A has significantly higher Convexity than Bond B. If the market interest rates (YT

  • M decrease suddenly by 100 basis points (1%), which of the following outcomes is most likely?
A Both bonds will increase in price by exactly 7.5%, as they have the same Modified Duration.
B Bond B will experience a greater price increase than Bond A because lower convexity allows for faster price appreciation.
C Bond A will experience a greater price increase than Bond B due to the positive contribution of higher convexity.
D Both bonds will decrease in price, but Bond A will decrease less than Bond B.
E The price change cannot be determined without knowing the specific coupon rates of the bonds
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