How is dollar duration calculated?

Dollar duration is a measure of the price sensitivity of a bond or a bond portfolio with respect to changes in interest rates. It is a practical way to assess interest rate risk, indicating how much the price of a bond is expected to change for a 1% change in yield.

The correct method to calculate dollar duration is to take the modified duration—an adjustment of Macaulay duration that accounts for changes in cash flows with interest rate changes—and multiply it by the present value of the bond or portfolio. The resulting figure indicates the dollar amount that the price of the bond or portfolio will change when interest rates change by 1%. Therefore, using modified duration in conjunction with the present value of the portfolio aligns perfectly with the concept of measuring risk relative to price movements in response to interest rate fluctuations.

While the other options may involve elements of duration or cash flows, they do not accurately reflect the established calculation for dollar duration. Only the approach of multiplying modified duration by the present value of the portfolio properly captures the relationship between price changes and interest rate risk.