Pricing and Yields · Bonds Explained

Keep the comparison consistent

A yield curve plots yields across maturities for a defined market and date. A curve rising from short to long maturities is upward sloping. An inverted curve has lower yields at longer maturities over the segment being compared.

Curves can shift, steepen, flatten or twist. A two year yield and a ten year yield need not move by the same amount. Use the same currency, timestamp and yield convention when calculating a slope.

Measure the slope

Suppose hypothetical two year and ten year government yields are 3.8% and 4.4%. The difference is 0.6 percentage points, or 60 basis points. If the two year yield rises to 4.2% while the ten year stays at 4.4%, the slope narrows to 20 basis points.

That is a flattening caused by a rise at the short end. The same final slope could arise through a different combination of movements, with different effects on a portfolio.

Measure a simple credit spread

A corporate bond yielding 5.7% compared with a suitable government benchmark at 4.2% has a simple yield spread of 1.5 percentage points, or 150 basis points. The difference can reflect credit, liquidity, optionality and other characteristics.

Matching maturity alone is not enough when coupons, duration or embedded options differ materially. More advanced spread measures adjust parts of this comparison, but depend on their own models.

Use curves as evidence

A curve contains information about expected policy, inflation, term compensation and supply and demand. It does not reveal one certain future path. Credit spreads can widen because investors expect more losses or demand more compensation for holding risk.

Record the observed change first. Then separate your explanation from the measurement. A statement such as the curve flattened by 40 basis points is different from a claim about why it happened.

Try it yourself

A corporate yield rises from 5.5% to 5.8% while its benchmark rises from 4.0% to 4.5%. What happens to the simple spread?

Show the worked answer

It narrows from 150 to 130 basis points. The corporate yield rises, but by less than the benchmark yield.

Further reading

Educational material. Examples are hypothetical and do not recommend a security or a personal allocation. Contract terms and market conventions vary.

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