Why the long bond bleeds when rates rise
Bonds and rates move inversely, that is a slogan, not an understanding. The real question is why, and why maturity decides how much it hurts.
Rates rise across the market. What happens to the bond already sitting in your portfolio?
Its price falls. But the phrase "inverse relationship" is where most people stop, and that's the mistake, the interesting part is why it must fall.
Go on, then. Explain it to me as if I'd never seen a bond.
Yours pays a fixed 3%. New bonds pay 5%. Nobody buys yours at full price when they can get 5% next door, so your price has to drop until a buyer's total return matches the market. The coupon is nailed down; the price is the only thing free to move.
So the yield on my bond went up because the market yield went up, same thing, two names?
Careful, that's the trap. Your bond's yield rose because its price fell. Cause and effect run price → yield here, not the reverse. The coupon never changed; the discount you'd sell it at did.
Now two bonds, same 3% yield. One matures in 2 years, one in 30. Rates rise 1%. Which one hurts?
The 30-year, badly. The short bond traps you at a below-market rate for two years; the long one locks it in for three decades of cash flows, all repriced downward. That sensitivity has a name.
Name it.
Duration. It measures how much a bond's price moves for a change in yield. Longer maturity and lower coupons push duration up, which is exactly why the 30-year bleeds and the 2-year barely flinches.
↑ answer it in your head first ↑
Traps
- ⚠ Stopping at "inverse relationship" without the mechanism, the coupon is fixed, so only the price can move.
- ⚠ Confusing yield with price. A higher yield on your existing bond comes *from* a lower price, not the other way round.
- ⚠ Treating duration as time to maturity. It is a sensitivity measure; maturity is only one input to it.