IDEAS home Printed from https://ideas.repec.org/a/gam/jrisks/v13y2025i4p69-d1625778.html
   My bibliography  Save this article

Interest Rate Sensitivity of Callable Bonds and Higher-Order Approximations

Author

Listed:
  • Scott S. Dow

    (M. R. Greenberg School of Risk Science, J. Mack Robinson College of Business, Georgia State University, Atlanta, GA 30302, USA)

  • Stefanos C. Orfanos

    (M. R. Greenberg School of Risk Science, J. Mack Robinson College of Business, Georgia State University, Atlanta, GA 30302, USA)

Abstract

Certain fixed-income securities, such as callable bonds and mortgage-backed securities subject to prepayment, typically exhibit negative convexity at low yields and cannot be adequately immunized through duration and convexity-matching alone. To address this residual risk, we examine the concepts of bond tilt and bond agility. We provide explicit calculations and derive several approximation formulas that incorporate higher-order terms. With the help of these methods, we are able to track the price-yield dynamics of callable bonds remarkably well, achieving mean absolute errors below 2.5% across a wide variety of callable bonds for parallel yield shifts of up to ±200 basis points.

Suggested Citation

  • Scott S. Dow & Stefanos C. Orfanos, 2025. "Interest Rate Sensitivity of Callable Bonds and Higher-Order Approximations," Risks, MDPI, vol. 13(4), pages 1-24, April.
    • Handle: RePEc:gam:jrisks:v:13:y:2025:i:4:p:69-:d:1625778
    as

    Download full text from publisher

    File URL: https://www.mdpi.com/2227-9091/13/4/69/pdf
    Download Restriction: no
    File URL: https://www.mdpi.com/2227-9091/13/4/69/
    Download Restriction: no
    ---><---

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:gam:jrisks:v:13:y:2025:i:4:p:69-:d:1625778. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    We have no bibliographic references for this item. You can help adding them by using this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: MDPI Indexing Manager (email available below). General contact details of provider: https://www.mdpi.com .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.