Pricing Long Bonds: Pitfalls and Opportunities
by Philip H. Dybvig and William J. Marshall

forthcoming in the Financial Analysts Journal


Recent issues such as Disney's 100-year bonds have made it especially important to value long-maturity fixed claims accurately, and valuing long claims has always been important for immunizing portfolios used to fund long obligations such as certain defined-benefit pension payments. Due to the subtleties of convexity, parameter uncertainty, and the impact of default risk, it is easy to underestimate the value of long-maturity bonds. This article examines the pitfalls in pricing long bonds and the correct pricing that points to investment opportunities. Formal analysis of these problems reveals large errors that can arise from the usual intuitive arguments using the expectations hypothesis and point estimates of unknown parameters.

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