How do I use modified duration to estimate a bond price change?
I know duration and price move opposite to yield, but I keep mixing up whether to use 25, 0.25, or 0.0025 for a 25 basis point yield move.
Use the decimal yield change. The first-order estimate is:
percentage price change approximately equals -modified duration x change in yield
If modified duration is 6.4 and yield rises by 25 basis points, the decimal yield change is 0.0025. The estimated price change is -6.4 x 0.0025 = -0.016, or -1.60 percent.
The negative sign captures the inverse relationship between price and yield. If yield falls by 25 basis points, the estimate becomes positive.
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