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MANAGING INTEREST RATE RISK: DURATION GAP AND MARKET VALUE OF EQUITY - page 3 / 39

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Duration versus maturity

1.)1000 loan, principal + interest paid in 20 years.

2.)1000 loan, 900 principal in 1 year, 100 principal in 20 years.

                                                             1000 + int |-------------------|-----------------| 0                    10                  20

  900+int                    100 + int |----|--------------|-----------------| 0   1               10                  20

What is the maturity of each?   20 years

What is the "effective" maturity?

2.) = [(900/100) x 1]+[(100/1000) x 20] = 2.9 yrs

1

2

Duration, however, uses a weighted average of the present values.

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