What does duration measure for a fixed-income security?

• A. Time to maturity
• B. Credit quality
• C. Bond's sensitivity to yield changes
• D. Tax status

Answer: (C)

Duration is a measure of a fixed-income security’s price sensitivity to changes in interest rates. It tells you how much the price is expected to move for a given shift in yields, reflecting the interest-rate risk of the bond. It’s not simply time to maturity, nor a direct gauge of credit quality or tax status.

In practice, duration works as a proxy for price change: for small yield changes, the price change is approximately negative duration times the yield change. Higher duration means the price will swing more when rates move. Bonds with longer maturities or lower coupon rates generally have higher duration, while shorter maturity or higher coupon bonds have lower duration. There are two related ideas: Macaulay duration, measured in years as the weighted average time to receive cash flows, and modified duration, which translates that into a percent price change per unit yield change.