(3) Positive convexity
is always a good thing for the bond investor, regardless of whether interest rates rise or fall.
By selecting non-callable securities, we ensure that our bonds have positive convexity
and can maximize gains.
Many servicers' aggregate portfolios being modeled today are reflecting positive convexity
(or a greater gain in value with a back-up in rates than a decrease in value for the same downward rate shock.) Of course, any hedging activity would have to be considered to anticipate the net effect to the servicer.
They provide the positive duration and positive convexity needed to offset the negative duration and negative convexity of mortgage servicing, says Shaiman.
A security that has positive convexity rises at a greater pace than the corresponding change in interest rates.
POs are good hedging vehicles since their positive convexity
offsets the negative convexity of mortgage servicing.
POs and super POs may also lack the required positive convexity
needed to offset the negative convexity of mortgage servicing.
Assets with positive convexity tend to have more upside under a range of market conditions over time, and those with negative convexity have more downside.
Because the return on servicing has negative convexity, it needs to be hedged by something that has positive convexity, explains McGranery at J.