Inside the Yield Book

First published in 1972, Inside the Yield Book revolutionized the fixed-income industry and forever altered the way investors looked at bonds. Over forty years later, it remains a standard primer and reference among market professionals. Generations of practitioners, investors, and students have relied on its lucid explanations, and readers needing to delve more deeply have found its explication of key mathematical relationships to be unmatched in clarity and ease of application.

This edition updates the widely respected classic with new material from Martin L. Leibowitz. Along the way, it skillfully explains and makes sense of essential mathematical relationships that are basic to an understanding of bonds, annuities, and loans—in fact, any securities or investments that involve compound interest and the determination of present value for future cash flows. The book also includes a new foreword.

• Contains information that is more instructive, important, and useful than ever for mastering the crucial concepts of time, value, and return
• Combines the clear fixed-income insights found in the original edition with completely new knowledge to help you navigate today's dynamic market
• Includes over one hundred pages of new material on the role of bonds within the total portfolio

In an era of calculators and computers, some of the important underlying principles covered here are not always grasped thoroughly by market participants. Investors, traders, and analysts who want to sharpen their ability to recall and apply these fundamentals will find Inside the Yield Book the perfect resource.

Acknowledgments xi

PART I: DURATION TARGETING: A NEW LOOK AT BOND PORTFOLIOS (2013 EDITION) 1

Introduction 3

CHAPTER 1 Duration Targeting and the Trendline Model 9

CHAPTER 2 Volatility and Tracking Error 35

CHAPTER 3 Historical Convergence to Yield 51

CHAPTER 4 Barclays Index and Convergence to Yield 63

CHAPTER 5 Laddered Portfolio Convergence to Yield 81

Appendix: Path Return and Volatility 95

References 105

PART II: SOME TOPICS THAT DIDN’T MAKE IT INTO THE 1972 EDITION (2004 EDITION) 107

Contents of the 2004 Edition 109

Foreword by Henry Kaufman 111

Preface to the 2004 Edition: A Historical Perspective 113

Technical Appendix to “Some Topics” 157

PART III: INSIDE THE YIELD BOOK (ORIGINAL EDITION) 171

Preface to the 1972 Edition 173

Contents of the 1972 Edition 175

List of Tables 179

About the Authors 349

Index 353

“The third edition of Inside the Yield Book builds on the previous editions with valuable insights into duration targeting. The authors convey their mathematically elegant findings with the same clarity and accessibility that characterized the writing of Leibowitz and Homer more than 40 years ago, before abstruse formulas began to permeate fixed-income analysis.”
—CFA Institute Book Review

First published in 1972, and then updated in 2004, Inside the Yield Book is the widely-read classic volume that led to the modern science of bond analytics.

With the global nature of today’s investment management process and the increasing complexity of financial instruments, we may seem far removed from the bond markets that authors Martin Leibowitz and Sidney Homer first wrote about over forty years ago, but the ability of this new Third Edition to explain complex relationships in the debt markets in a logical and often intuitive way remains unchanged.

Divided into three comprehensive parts, this new edition is filled with what many would consider some of the best information regarding bonds you’ll ever find. It contains the complete original edition of Leibowitz and Homer’s classic, which basically created the science of bond analysis through clear explanations of bond portfolio management and the math behind bond yields and prices. It also includes the 2004 updates to the classic, which developed a horizon-based approach to present-value and showed how these concepts could be generalized beyond bonds to become useful in the analysis of virtually any investment opportunity, including equities.

While the earlier editions of this reliable guide focused on a single bond that was continuously held either to maturity or to some specified horizon, many bond investments take the form of portfolios composed of multiple bond holdings and a continually changing bond composition. A completely new part of this Third Edition contains material coauthored by Martin Leibowitz, Anthony Bova, and Stanley Kogelman that reflects this reality. It provides valuable insights into the often-surprising return behavior exhibited by Duration Targeting (DT) portfolios—the most common form of bond management—over multi-year horizons. Engaging and informative, this new part addresses some practical concerns in this arena as it: develops a trendline-based zero coupon bond model of Duration Targeting; explores the relationship between yield volatility and return volatility; moves beyond theory and simulated returns to the recorded returns of actual Duration Targeted portfolios; analyzes the so-called “laddered portfolios” that commonly are used by individual investors; and much more.

Whether you’re an institutional or individual investor, trader, or analyst, if you’re looking to enhance your bond analysis skills, this authoritative work covers essential concepts and contains illustrative examples that will allow you to excel in today’s challenging bond markets.