Key Rate Duration

Effective duration calculates the approximate change in a bond’s price given a 100 basis point (1%) move in interest rates as part of a parallel shift in the yield curve.

When the yield curve shifts in a non-parallel manner, the portfolio’s effective duration cannot be used to estimate the change in portfolio value.

Key rate duration is the duration at specific maturity point on the yield curve. Keeping all other maturities constant, key rate duration is a measure of the sensitivity of a bond’s price to a 100 basis point change in yield for a given maturity.

When the yield curve changes in a non-parallel manner, key rate durations (and not the portfolio’s effective duration) must be used to estimate the change in portfolio value.

Key rate duration is calculated using the following formula:

$Key\ Rate\ Duration = \frac{P_{-} - P_{+}}{2 \times 1 \% \times P_{0}}$