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Convexity

Convexity Definition

Rate of change in duration with respect to changes in interest rates. Positive convexity occurs when durations shorten as interest rates rise or lengthen as interest rates decrease. Negative convexity occurs when durations lengthen as interest rates rise or shorten as interest rates decrease. Mortgages typically have negative convexity, because as interest rates rise the incentive to prepay is reduced, thus extending the duration of the mortgage.
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