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Answer: The bond with higher convexity outperforms the bond with lower convexity.
The correct answer is **C**. The two bonds are assumed to have the same price, yield-to-maturity, and modified duration. The advantage of greater convexity becomes evident when yields-to-maturity change. For a given decrease in yield-to-maturity, the more convex bond appreciates more in price. Conversely, for a given increase in yield-to-maturity, the more convex bond depreciates less in price. Therefore, the more convex bond consistently outperforms the less convex bond in both rising (bull) and falling (bear) markets. This principle holds true for any change in yield-to-maturity.
Author: LeetQuiz Editorial Team
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Two bonds with identical duration but differing convexity are held. Assuming all other factors remain constant, if the yields to maturity rise by 10 basis points, which of the following is most likely to occur?
A
The bond with higher convexity underperforms the bond with lower convexity.
B
The prices of both bonds decline by an equal amount.
C
The bond with higher convexity outperforms the bond with lower convexity.
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