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Subject 8. Credit and Liquidity Risk PDF Download
A change in yield-to-maturity will cause a change in bond price. What is the source of the change in the yield-to-maturity?

The yield-to-maturity on a corporate bond has two components:

  • Government benchmark yield. A change in the yield can come from a change in either of these two components:

    • Expected inflation rate.
    • Expected real rate of interest.

  • A spread over government benchmark. A change in the spread can come from a change in either of these two components:

    • Credit risk of the issuer. This involves the probability of default and degree of recovery if default occurs.
    • Liquidity of the bond. This refers to the transaction costs associated with selling a bond.

Regardless of the source of the yield-to-maturity change, the bond price change caused by a change in the yield-to-maturity will be the same.

In practice, there is often interaction between changes in benchmark yields and in the spread over the benchmark.

User Contributed Comments 8

User Comment
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