Lorenzo
Thu Aug 01 2024
|
6 answers
1203
Is negative convexity good or bad?
Ah, an intriguing question indeed! So, let's dive into this topic of negative convexity. When we talk about convexity in the world of finance, especially in the context of bonds and other fixed-income securities, it's essentially a measure of how sensitive the duration, or sensitivity to interest rate changes, of a bond is to changes in the interest rate itself. Now, positive convexity is generally seen as a desirable characteristic, as it means that the bond's price will increase more than proportionally when interest rates fall, and decrease less than proportionally when interest rates rise. This provides a cushion against potential losses from rising rates. But, negative convexity is the opposite. It suggests that the bond's price will decrease more than proportionally when interest rates rise, and increase less than proportionally when they fall. This can be seen as a disadvantage, as it exposes investors to greater risks and potential losses from rising rates. So, to answer your question, negative convexity is generally considered bad, as it can lead to larger losses during periods of rising interest rates. However, it's important to note that the impact of convexity can vary depending on the specific characteristics of the bond and the market conditions.
