When small changes in conditions induce larger movements in bond prices, it is called convexity. This is when the relationship between bond prices and changes in interest rates is not linear. Convexity is sensitivity of an interest rate change on bond prices. If bond prices get more sensitive to interest rate changes as rates change, then convexity has increased. Convexity is currently undervalued in fixed-income markets. The market believes that interest rates will remain low for a long period and there is little risk of sharp changes to the sensitivity of bond prices. In other words, the market view is that there is little chance the rate at which the value of a bond falls could accelerate relative to the increase in interest rates. But some fund managers disagree and are actively exploiting this undervaluing of convexity […]