Effective Duration
A duration calculation for bonds with embedded options. Effective duration takes into account that expected cash flows will fluctuate as interest rates change. Investopedia Says:
Effective duration can be estimated using modified duration if the bond with embedded options behaves like an option-free bond. This behavior occurs when exercise of the embedded option would offer the investor no benefit. As such, the security's cash flows cannot be expected to change given a change in yield. For example, if existing interest rates were 10% and a callable bond were paying a coupon of 6%, the callable bond would behave like an option-free bond because it would not optimal for the company to call the bonds and re-issue them at a higher interest rate. Related Terms:
Bond
Callable Bond
Duration
Embedded Option
Empirical Duration
Fixed-Income Style Box
Key Rate Duration
Macaulay Duration
Modified Duration |