AuthorTopic: nomimal vs. Z spread
darkcloud
@2010-05-22 17:11:05
Is the nominal spread always smaller than the Z spread? If so why?
quest
@2010-05-27 09:32:42
The z-spread represents the premium that must be paid over the Treasury spot rates to compensate investors for the additional risk of the security. These risks include the credit risk, liquidity risk, and any spread attributable to embedded options. For most coupon bonds with a single repayment of principal, the difference between the z-spread and the nominal spread will generally be small. The z-spread will diverge from the nominal spread to a greater extent when dealing with longer-maturity bonds, and the divergence will be affected by the term structure of interest rates. There will be less divergence if the term structure is relatively flat, for example, and the difference will increase, as the term structure becomes steeper. The slope of term structure will also have a greater impact if the principal is paid back over the life of the security, rather than in a single payment at the end. Consequently, the divergence will be greater for asset-backed securities, for example.

CFA Discussion Topic: nomimal vs. Z spread

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