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Tax-Adjusted Duration for Amortizing Debt Instruments

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  • Stock, Duane
  • Simonson, Donald G.

Abstract

This research provides improved techniques for analyzing the after-tax risk exposure of taxable institutions holding amortizing instruments such as commercial, real estate, and consumer loans. We derive after-tax duration for amortizing instruments and analyze it for sensitivity to tax rates, coupon, and maturity. Taxable investors who hedge and ignore the effects of taxes on amortizing instruments will underestimate differences in durations on bonds versus amortizing instruments of equal maturities; bond durations increase much faster as tax rates increase. One unexpected result shows that, unlike bond duration, amortizing instrument duration often increases with coupon rate, and sometimes is independent of coupon rate.

Suggested Citation

  • Stock, Duane & Simonson, Donald G., 1988. "Tax-Adjusted Duration for Amortizing Debt Instruments," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 23(3), pages 313-327, September.
    • Handle: RePEc:cup:jfinqa:v:23:y:1988:i:03:p:313-327_01
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    Cited by:

    1. Lee, Jae Ha & Stock, Duane R., 2000. "Embedded options and interest rate risk for insurance companies, banks and other financial institutions," The Quarterly Review of Economics and Finance, Elsevier, vol. 40(2), pages 169-187.
    2. Lesseig, Vance P. & Stock, Duane, 2000. "Impact of Correlation of Asset Value and Interest Rates upon Duration and Convexity of Risky Debt," Journal of Business Research, Elsevier, vol. 49(3), pages 289-301, September.
    3. Followill, Richard, 1998. "An analytical comparison of the durations and price sensitivities of fixed-rate, constant payment and constant amortization mortgages," International Review of Financial Analysis, Elsevier, vol. 7(1), pages 51-64.

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