I am honestly struggling.
We have DM, QM, and Z-DM
DM is the spread that you add over the LIBOR to discount your cash flows
QM is the spread that you add over the LIBOR to get the coupon payments you will receive
and whats this Z-DM and how is it related to DM? I am struggling when I read the curriculum about this particular concept
I was confused about why Z-DM < DM with an upward slope curve. Very hard concepts.
same
did you figure it out? I feel that reading is poorly written
Memorized and looked at some document on internet from some university. I think better just memorize.
In case of floating rate note when we are assuming MRR as flat and not changing over life of bond DM is used as spread while when we are assuming that MRR is changing (spot/forward rates of MRR )then Z DM is being used.Now consider discounting factor it would be MRR(flat)+DM or MRR(Changing)+zDM.when upward slopping average value of MRR(Changing)>MRR(Flat) so ZDM<DM.Dont know if I am making some sense
I guess memorize it. Thanks for trying dumbledore but that made no sense to me.
I’m really struggling these days. I feel every question I’ve had within FI ended up being in the errata eventually and then questions like this just don’t get answered.
The discount margin doesn’t take into account the term term structure of interest rate and as such can be considered like a YTM. It considers that the the forward rate curve will remain flat. It means that the future forward rate will be the same as the current MRR.
The Z-DM is like the Z-spread used to reprice fixed rate notes.
The Z-DM consider that the floating rate aka MRR will change. If the yield curve is upward sloping it means that the rates used to reprice the bond will be greater than the current yield used to reprice the bond , aka the discount margin.
Since you discount the bond with relative higher rate the spread you get with the Z-DM will be lower than the spread using the DM.
Hope it helps.
They all said it very well above. I just wanted to share my two cents.
Why Z-DM<DM for upward sloping yld curve? Both are added terms to the denominator to get the same FRN price, but Z-DM considers the future outlook while DM does not → for upward sloping, only a smaller Z-DM needs to be added to the denominator → Z-DM is smaller than DM.