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Answer: A US Treasury bond, as modified duration is suitable for non-complex bonds like Treasuries, whereas effective duration is necessary for bonds with embedded options.
Modified duration is the most appropriate measure for non-complex bonds like US Treasury bonds, as they have a well-defined yield-to-maturity. For complex bonds, such as callable bonds or mortgage-backed securities, effective duration is the preferred measure due to their uncertain cash flows. This distinction is critical in fixed-income analysis for accurately assessing interest rate risk.
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Which of the following securities is most appropriately measured for interest rate risk using modified duration?
A
A callable bond, as yield duration statistics like modified duration are not applicable due to the undefined internal rate of return. Effective duration is the suitable measure.
B
A US Treasury bond, as modified duration is suitable for non-complex bonds like Treasuries, whereas effective duration is necessary for bonds with embedded options.
C
A mortgage-backed bond, as yield duration statistics such as modified duration are irrelevant for such securities.
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