[Verse 1] There's a bond that pays you well each year But the issuer holds a special right When interest rates begin to fall down here They can call it back and say goodnight Normal bonds would rise when rates decline But callable bonds have a different sign [Chorus] Negative convexity, price gets stuck up high When rates fall down, can't fly around, your gains just say goodbye Duration gets unstable, calculations fail Negative convexity tells the tale [Verse 2] Picture this: the market rates drop low Your bond looks sweet at eight percent But the company says "we've got to go" Refinance at four, your bond is bent They'll pay you back at par today While normal bonds would climb away [Chorus] Negative convexity, price gets stuck up high When rates fall down, can't fly around, your gains just say goodbye Duration gets unstable, calculations fail Negative convexity tells the tale [Bridge] When rates rise up, you fall just fine Like any bond would do But when rates drop below the line The ceiling captures you The call option's in their hands Your price appreciation hits quicksand [Verse 3] Duration measures price sensitivity To changes in the interest rate But when you're near that call activity Duration numbers fluctuate The math breaks down, the models bend Convexity's your foe not friend [Chorus] Negative convexity, price gets stuck up high When rates fall down, can't fly around, your gains just say goodbye Duration gets unstable, calculations fail Negative convexity tells the tale [Outro] So when you see that callable feature Remember what it means to you Limited upside is its nature When rates fall through
← Convexity Adjustment and Calculations | Key Rate Duration →