Convexity improves price estimates for large yield changes.

• A. True
• B. False
• C. Only for short-term bonds
• D. Only for long-term bonds

Answer: (A)

Convexity captures the curvature of the price–yield relationship. The price of a bond is not a straight line in yield; using only duration gives a linear approximation, which can be quite inaccurate when yields move a lot. Including convexity adds the quadratic term to the price change estimate, reflecting the bend in the curve. Since convexity is positive for typical bonds, this term improves accuracy for larger yield changes, making price estimates more reliable than duration alone. The idea isn’t limited to a particular maturity range—the effect is simply more noticeable as yield moves become sizable and, on average, for longer maturities, but the improvement applies broadly.