Duration and Average Life
[Pages:1]Duration and Average Life
The term structure of a transaction refers to the length of time the investment is outstanding and can be measured by total term, average life and duration. These financial terms are commonly applied to loans, but they can be useful in evaluating any financial transaction.
The total term of a loan is the number of years from the loan draw down date to the last debt service.
The average life of a loan is the number of years that pass from the loan draw down until half the timeweighted principal is repaid. This figure is used as a measure to help lenders differentiate the risk factors between two loans with identical maturities. For instance, a lender may consider a 30-year level debt service (mortgage-style) loan less risky than a 30-year interest-only balloon loan. The average life of the first loan is significantly less than that of the second loan.
The calculation of the average life of a loan with a single initial draw down is:
Average Life = sum[principal payment * (days since loan draw)/360] / initial loan amount
If the loan has a single interest rate, the formula simplifies to:
Average Life = sum[interest payments] / (initial loan amount * interest rate)
To see average life using a graph, plot the principal payments against time and determine the balance point. This balance point is the average life of the loan.
The Macaulay duration of a loan is the number of years that pass from the loan draw down date until half of the time-weighted present value of the debt services has been paid. Duration is used by lenders to determine an instrument's sensitivity to interest rate changes. The risk of a change in market conditions will affect the value of a loan with a high duration more than the value of a similar loan with a low duration. The formula for this is Volatility (percent) = Duration / (1+yield).
The calculation of the Macaulay duration of a loan with a single initial draw down is:
Duration = sum[present value of each debt service * (days since loan draw)/360] / initial loan draw
The present value is calculated at the loan interest rate.
To see duration using a graph, plot the present value of the debt service payments against time and determine the balance point. This balance point is the duration of the loan.
The content provided above is intended for the informational use of our clients, and does not constitute legal or
................
................
In order to avoid copyright disputes, this page is only a partial summary.
To fulfill the demand for quickly locating and searching documents.
It is intelligent file search solution for home and business.
Related download
- microsoft excel 2019 formulas and functions
- calculating an amortization schedule
- how to calculate monthly payments in excel
- understanding how a precomputed loan works
- explanation and example of the rule of 78 for instalment loans
- duration and average life
- interest rate formulas new mexico state university
- how daily simple interest works onemain financial
- islamic norms the excel formula and home financing models
Related searches
- average life expectancy 2020
- average life span in usa
- average life span for males in us
- average life expectancy us 2019
- average life expectancy by state
- average life expectancy in the us
- average life span human
- average life span by country
- average life expectancy in america 2019
- average life expectancy canada 2019
- average life span of human
- average life span american male