The last two installments of Spreadsheet Corner provided templates on how to calculate bond prices, returns and price sensitivity to changes in interest rates and time to maturity (Fourth Quarter 2012 and First Quarter 2013 issues; available online at ComputerizedInvesting.com). These articles laid the groundwork for a discussion of more advanced, and accurate, measures of bond volatility.
As bond investors, we need to be aware of the impact that changing interest rates (yields) can have on the value of bonds. Volatility measures allow us to compare bonds of differing maturities and coupon rates to find the ones that fit our investment horizon and our forecast of future interest rates. Recall that there is an inverse relationship between yield and bond prices. If interest rates go up, the value of the fixed interest and principal payment you expect to receive from the bond goes down. Conversely, if interest rates fall, the value of bonds will increase. In other words, the bond market rallies when interest rates fall (and, conversely, it falls when interest rates rise).
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