Week 11 Flashcards
1
Q
What is the spread over the benchmark yield
A
Spread over Benchmark Yield [on a government bond]: This captures micro-economic factors such as:
- expected loss from default,
- liquidity,
- taxation
2
Q
What is the Benchmark Yield?
A
Benchmark Yield: on a maturity-matching government bond. This captures macroeconomic factors such as:
- expected inflation
- the real rate of interest
3
Q
What is ‘The Term Structure of Credit Spreads (or the Credit Curve)’
A
The Term Structure of Credit Spreads (or the credit curve): corresponds to the spread between the yields on default-free and credit risky zero-coupon bonds
4
Q
What are the 3 Determinants of credit curve
A
Credit quality
- High quality bonds—credit spread term structure tends to be flat or slightly upward sloping
- Lower quality bonds–term structure tends to be more steeply sloped
Financial conditions
- Economic strengthening—higher benchmark yields and narrower credit spreads
- Economic weakening—lower benchmark yields and wider credit spreads
- Credit spreads and benchmark yield tend to be countercyclical over the business cycle
Market demand and supply
- In general, the credit curve may steepen when issuers replace short-term (maturing) debt with new long-term debt
