Testing the Market risk and Portfolio risk Analyzer modules.

Question

Hi guys,
Somehow(don't ask me how) I have configured Market risk analyzer and Portfolio risk analyzer module. When I run report AIS_STDREP it spews out some figures for Duration, convexity... TWRR, MWRR... etc. But I am clueless as to how to test whether these figures are correct.
Any help in this direction will be highly appreciated.
Thanks
Kalyan

Answer 1

Hi,
I would test them manually using the formulas.
E.g. for a fixed semiannual coupon bond, we can first calculate the present value (PV) of each coupon and principal payment by dividing that amount by (1y)^t where y is seminanual coupon and t is 1 for 6 months, 2 for 1 year, etc. Multiply each PV by corresponding t to get corresponding duration term and then add up all duration terms to get dollar duration. Divide that by face value to get duration (in half years) and further divide by 2 to get duration in years. This would be Macaulay duration. Divide by 1y to get modified duration in years.
For convexity, multiply each PV by t(t1)/(1y)^2 to get corresponding convexity term; then add up all convexity terms to get dollar convexity. Divide that by face value to get convexity (in half years squared ) and further divide by 4 to get convexity in years squared.
As you know, it is much simpler for a zero coupon bond; so may be that scenario can be tried first to see if system is producing correct values. Duration (Macaulay) is same as actual duration (term) of the bond and Modified duration is D/(1y); Convexity is T(T1)/(1+Y)^2.
For a long duration bond (say, 30 years or more), duration does not depend on the coupon and is approximately (1+y)/y.
Manish