Level 1: CFA FI - Fixed Income - full course playlist 2025 (and 2026) by FinQuiz Pro

all right CFA candidates today we're diving into the world of yields periodicity and spread measures now I know it might sound like a mouthful but trust me this stuff is key to becoming a bond market Maestro if you've ever wondered why a bonds yield varies depending on how often it pays interest or how to compare bonds with different cash flows you're in the right place grab your pens and let's break this down step by step so first things first what the heck is periodicity think of it as the number of times a bond pays interest each year most bonds don't just pay interest annually they can pay semiannually quarterly or even monthly and this affects the Bond's yield take a 5-year bond that pays semiannual coupons with a stated YTM yield to maturity of 3.2% since it pays twice a year the periodicity is two you divide that 3.2% by 2 giving you 1.6% per period simple right but here's the kicker just knowing the periodic yield isn't enough we want to know the effective annual rate e the rate that reflects the annual impact of compounding those are periodic payments when it comes to e the periodicity is always one because we're compounding once a year if the bonds periodicity is two semiannual we calculate e by compounding the semiannual rate now most bonds out there are on a semiannual Bond basis meaning they pay interest every 6 months the yield calculated this way is called the semiannual Bond equivalent yield think of it like a double scoop of ice cream you get two servings in one year remember the semiannual Bond basis yield and yield per semiannual period aren't the same one is annualized the full Year's worth and the other is for each half of the Year all right now now let's talk about converting yields between different periodicities say from semiannual to quarterly or monthly this is super important because bonds can pay interest at different frequencies and we need a common ground to compare them here's the general formula to convert an annual percentage rate APR from one periodicity to another through this formula we'll learn how to convert an annual percentage rate or a with M periods per year denoted as APR subm to an equivalent APR for n periods per year which we'll call APR subn using a general formula that addresses different compounding frequencies Say it With Me 1 plus the APR for the first periodicity raised to the power of the number of periods equals 1 plus the APR for the second periodicity raised to the power of its number of periods here's a rule of thumb to keep in mind more frequent compounding at a lower rate can yield a similar return as less frequent compounding at a higher rate this is why converting yields between different compounding frequencies is so important it helps us make apples to apples comparisons between bonds with different cash flow structures now let's jump into some other yield measures you'll come across in fixed income analysis current yield is a quick and dirty measure it's the annual coupon payment divided by the Bond's price but remember it doesn't account for any capital gains or reinvestment of coupons so take it with a grain of salt yield to maturity YTM this is the yield assuming you hold the bond until it matures and reinvest all coupon payments at the YTM it's the gold standard for measuring a Bond's return Street convention and true yield okay now most yields are calculated using the street convention which assumes all coupon payments are made on scheduled dates ignoring weekends and holidays the true yield adjusts for actual payment dates resulting in a slightly lower yield due to delays but it's rarely used used government equivalent yield this restates a corporate bond yield using an actual over actual day count to compare it to a government bond yield it's like converting currencies so you can compare prices properly now let's switch gears to bonds with embedded options like callable bonds a callable bond gives the issuer the right to buy back the bond at predetermined dates and prices usually after a no call period this flexibility is great for the issuer but not so much for the investor who faces the risk of early Redemption yield to call ytc this calculates the yield if the bond is called on the first second or any subsequent call date it's usually lower than the YTM because the invest VOR receives less interest over time yield to worst ytw the ytw is the lowest possible yield considering all called dates and the YTM it's a conservative measure but it gives investors a clear view of the worst case scenario let's get into bonds with embedded options specifically callable bonds from an Investor's point of view a call option built into a bond isn't exactly ideal that's because it adds call risk the chance that the issuer might repay the bond early especially if interest rates drop forcing the investor to reinvest at lower rates because of this added risk colable bonds are priced lower than bonds without the option also known as option-free bonds this price difference gives us the option adjusted price which is basically the Bond's price after factoring in the call option now when we use that option adjusted price to calculate yield we get something called the option adjusted yield this yield reflects the Market's required rate of return considering the effect of the call option since the option makes the bond less valuable the option adjusted yield is typically lower than what you'd get on a non-callable bond to break it down option adjusted price is lower for callable bonds because of the embedded call option option adjusted yield takes into account the call options value and is typically lower than the yield on an equivalent non-callable Bond and the value of the call option itself it's simply the difference between the price of the option free Bond and the callable bond all right now we're diving into the world of yield spreads and Matrix pricing for fixed rate bonds now if you've ever wondered how to figure out if a bond is a good buy or if you're getting compensated enough for the risk you're taking this is your bread and butter yield spreads are like the extra toppings on a pizza they represent the extra return investors demand to take on additional risk over a risk-free benchmark so let's dig in and see how these spreads work and how you can use them to make Savvy investment decisions let's start with the basics yield to maturity think of YTM as being split into two slices Benchmark rate this is your base layer the risk-free rate usually represented by a government bond yield it's like the crust of your pizza stable secure and usually a given yield spread this is the topping the extra return demanded by investors to compensate for the specific risk of a bond such as credit risk liquidity risk or even tax implications the juicier the toppings the more return you're asking for imagine you're looking at a corporate bond from technova Corporation with a YTM of 5.5% the Government Bond The Benchmark with the same maturity yields 2.5% the extra 3% 5.5% minus 2.5% is the yield spread this is what you're getting paid for taking on Tech noa's credit risk potential liquidity issues and anything else that makes techn NOA a little more spicy than a plain Government Bond now when we talk about Benchmark rates there are two types of government bonds you need to know about on the run and off theun Bonds on the Run bonds are the most recently issued government bonds they're highly liquid trade at or near par value and are like the latest iPhone everyone wants them because they're hot off the press off theun bonds are older issues that aren't traded as often they can have have slightly higher yields because they're less liquid and have higher financing costs think of them as last year's iPhone model still good but not the latest and greatest so why are we obsessing over yield spreads because they help us assess the relative value of bonds by isolating the yield spread analysts can focus on the issuer specific risks like the company's creditworthiness without being distracted by broader economic changes yield spread analysis helps investors determine if a bond is underpriced a potential bargain or overpriced something to avoid by comparing a Bond's current spread to its historical spreads you can gauge whether the bond offers good value relative to its own past and similar Bonds in the market if tech Nova's Bond spread historically averages 2% but it's currently at 3% this might signal that the market thinks techn noa's risk has increased or that the bond is under valued time to dig deeper and see if it's a buying opportunity or a red flag all right now let's get into the different types of yield spreads you'll see in bond analysis g-spread this is the yield spread over a government bond yield either an actual ual or interpolated yield it's like comparing Apples to Apples where the apple is the risk of the Government Bond and the spread reflects the credit and liquidity risk premium of the corporate bond it's widely used in markets like the US UK and Japan I spread interpolated spread the I spread is the difference between the bonds YTM and the swap rate for the same currency and maturity it's particularly popular for Euro denominated bonds and is useful for comparing fixed rate bonds to floating rate Alternatives if you're holding a Euro denominated Bond and want to see how it Stacks up against the Euro interest rate swaps the I spread is your go-to measure it shows you the extra yield over a standard swap rate when comparing yields Over The Benchmark yield curve we take it up a notch G spread and I spread both these spreads use YTM for discounting the Bond's cash flows however they don't adjust for when these cash flows occur think of them as a broad Strokes approach zero volatility spread Zed spread the z-spread is a more precise tool it's the constant yield spread added to each spot rate on the government yield curve that makes the present value of the Bond's cash flows equal its price it's like threading the needle it adjusts for the exact timing of cash flows suppose you're looking at a bond with multiple cash flows the z-spread helps you understand the yield spread over the government spot curve taking into account each cash flow period it's like getting a detailed map versus a broad overview now what happens when a bond has embedded options like a cable Bond that's where the option adjusted spread OAS comes in the OAS adjusts the z-spread by factoring in the value of the call option it reflects the yield spread accounting for future interest rate volatility and gives a more accurate picture of the bonds risk OAS formula is simple OAS equals z spread minus the value of the option in other words it's the z-spread adjusted for the potential cost of the bond being called if techn noa's callable bond has a z-spread of 250 basis points but the option is valued at 50 basis points the OAS would be 200 basis points this tells you what you're actually getting after considering the call risk and there you have it a crash course in yield spreads for fixed rate bonds and Matrix pricing remember understanding these spreads helps you see beyond the surface stripping out macro factors to focus on issuer specific risks whether you're comparing corporate bonds to government bonds assessing callable bonds or just looking for a good deal knowing your spreads is key so keep practicing stay sharp and soon you'll be making informed decisions like a seasoned Bond Trader until next time keep those calculators warm and your mind's even sharper [Music]