Effect of credit spread can be measured using spread duration and have a same concept with interest rate (yield) movement toward price (corporate bond price decrease when yield increase, vice versa).
When corporate bond spread get narrower, Curriculum concluded that the corporate bond price shall be increase, with notes of interest rates are unchanged.
My question is, what is the effect if the spread duration get narrower because of interest rates are increasing and the bond yield itself doesn’t change? Based on bond price valuation using discounted cash flow, the price of corporate bond is supposed to be same as yield for the bond is still the same. Somehow, using spread duration, the price is supposed to be increased, because of drop in spread.
I find these quite contradicted. Can somebody help me to explain the right concept?
The moves in credit spreads are going to be small compared to the move in interest rates. so the overall yield will change, but you have offsetting moves. So in a risk on market where you have higher treasury rates and lower credit spreads, the overall bond yield is still higher, and the bond price lower. that note in the curriculum is looking at the credit spread alone, and ignoring the overall move in treasuries.
The other thing to think about it is that it’s all relative. As a fixed income portfolio manager, i could buy treasuries or i could buy corporates. the spread is the key part as that’s the incremental yield i get for shifting positions.
What i found really helpful was this Fixed Income Course to explain things actually work from traders and portfolio managers versus a textbook
Thanks a lot anthonyNY, somehow this absolute (overall bond yield) and relative (spread) movement are confusing for those who haven’t face actual trading since there are such conditions that happen in market (The moves in credit spreads are going to be small compared to the move in interest rates).
Thank you for the tips, I think I shall enroll on that course for getting exposure on practical world. As the key is on spread, hence the curriculum discussed a lot on excess return and expected excess return (using spread as basis to calculate it).