Guys (and girls) - need a piece of advice from you with the following - still note sure whether I got the explanation correctly. Question: Which of the following statements is (are) true with respect to the different ways to measure a spread over some benchmark yield curve? I. Assigning nominal spreads over some benchmark ignores the term structure of interest rates. II. A large nominal spread is very common among putable bonds. III. A zero-volatility spread measures what an investor would earn above the comparable Treasury security if interest rates do not change. IV. The divergence between the nominal spread and the zero-volatility spread will be greater as the yield curve becomes steeper. A. I, III and IV. B. I and IV. C. I, II and III. Right answer - B. I chose A but III is not exactly correct due to next: III is not exactly correct since the zero-volatility spread measures what an investor would earn above the Treasury spot curve if the security was held to maturity. Thus, this theoretical spread is not just above one comparable Treasury security, but rather the entire spot curve. What’s more, this spread is theoretically constant across the entire term. So, it’s because there is no indication that secutiry is hold until maturity?
it is emphasizing that the treasury spot curve is more than just 1 particular treasury security. By definition: zero-volatility spread measures what an investor would earn above the Treasury spot curve (not copmarable treasury security)
I chose A too. 3 looks correct because they say that interest rate does not change, so there is only one interest rate path, and the z-spread is over that only-1 interest rate path, which is eventually the same what we do for Nominal spread. As you think, the other reason might be because of secrutiy not being held to maturity (but that is cash flow yield measure, right?) Help!
What is the source of the question ? (Bad question clearly) I chose B. The reason why III is wrong is : A zero-volatility spread measures what an investor would earn above the comparable Treasury security (if interest rates do not change.) IF portion is not needed. If interest rates don’t change then z-spread = nominal spread CFAI won’t do such trickery. II is clearly wrong…
swaptiongamma - nice nick! I had the same reasoning - since it’s flat; but CFA dreams’s right - spot curve is not for one secutiry but rather for set of securities, guess this is the main reason.
charu_mulye Wrote: ------------------------------------------------------- > What is the source of the question ? (Bad question > clearly) > AnalystNotes - difficult level (means low percentage of right answers among users)