Bond Yield Curve Convexity Trading
10 Pages Posted: 25 Aug 2018
Date Written: August 16, 2018
Bond Yield curve is an important indicator of the borrowing costs and lending returns, is also one of the most observed indicator by traders in fixed income trading desk among investment banks. The shape of the yield curve can be normal, flat or inverted. In most cases, bond yield curve is concavely shaped. There are theories to explain the economical meaning for a normal, flat or inverted yield curve. However, there is a lack of explanation for the concave shape of the yield curve. We in this article try to provide an explanation by constructing arbitrage portfolio under the assumption that the yield curve moves in parallel. We can show that under this assumption, zero coupon bond yield curve should be concavely shaped. We will also reach the same conclusion for swap curves. In this process, we also discover some interesting properties which were never discussed in the literature.
Suggested Citation: Suggested Citation