Interest Rate Risk and Return

Where a fixed-rate bond investor's return really comes from, how to measure the realized (horizon) yield when rates move, why reinvestment risk and price risk pull in opposite directions, and how Macaulay duration marks the holding period at which the two cancel.

1. 1. The three sources of return on a fixed-rate bondA fixed-rate bond pays you through its coupons and principal, through interest earned on reinvested coupons, and through any gain or loss if you sell before maturity.Video · 6 minFree12 min
2. 2. Horizon yield: the realized return when rates moveThe horizon yield is the compound annual return from what you paid to what you hold at the horizon: reinvested coupons plus the sale price or redemption value.Video · 6 min14 min
3. 3. Reinvestment risk, price risk and the duration gapReinvestment risk and price risk offset each other, and which one dominates depends on whether your investment horizon is longer or shorter than the bond's Macaulay duration.Video · 7 min13 min
4. 4. Calculating Macaulay duration on a coupon dateMacaulay duration is the average time until you receive a bond's cash flows, with each time weighted by that cash flow's share of the bond's price.Video · 6 min13 min
5. 5. Macaulay duration between coupon dates and the closed-form formulaBetween coupon dates every cash flow is closer by the fraction of the period already elapsed, so Macaulay duration simply falls by t/T while the weights stay the same.12 min