Economics
Yield Curve
The yield curve is a graphical representation of the relationship between the interest rates and the time to maturity for a set of similar financial instruments. It is typically used to compare the yields on short-term and long-term government bonds. The shape of the yield curve can provide insights into market expectations for future interest rates and economic conditions.
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10 Key excerpts on "Yield Curve"
- Michael Brandl(Author)
- 2020(Publication Date)
- Cengage Learning EMEA(Publisher)
A Yield Curve shows the yield, or interest rate, paid on bonds of different maturities at one point in time (Figure 4-3). Yield Curve: Graph of the yields of bonds or debt at one point in time. An important thing to remember: “Term” set on the horizontal axis identifies the terms, or lengths to maturity, of the bonds we are examining at one point in time. That is, the horizontal axis is not , in this case, a measurement of time into the future as in what interest rates will be in the future. 4-4b Yield Curve Facts We want to use the Yield Curve graph to explain the following facts about interest rates: 1. A Yield Curve generally slopes upward. This means that holding everything else constant, the yield on long-term bonds tends to be higher than the yield on short-term bonds. 2. The slope of a Yield Curve can and does change. That is, sometimes the Yield Curve is flat, or there is not much difference between short-term yields and long-term yields, whereas other times the Yield Curve is steep, meaning there is a big difference between short-term yields and long-term yields; and sometimes the Yield Curve slopes downward. This downward-sloping Yield Curve is sometimes called an “inverted” Yield Curve. 3. There often are parallel shifts in a Yield Curve. That is, over time, short-term and long-term interest rates tend to move together. Sometimes all interest rates increase, or the Yield Curve shifts upward. Other times, all interest rates decrease, and there is a parallel downward shift in the Yield Curve. 4-4 3 mo 6 mo 1 yr 5 yr 10 yr 30 yr Term Yield Yield Curve Figure 4-3 The Yield Curve Copyright 2021 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience.
- Michael Brandl(Author)
- 2016(Publication Date)
- Cengage Learning EMEA(Publisher)
A Yield Curve shows the yield, or interest rate, paid on bonds of different maturities at one point in time (Figure 4-3). Yield Curve: Graph of the yields of bonds or debt at one point in time. An important thing to remember: “Term” set on the horizontal axis identifies the terms, or lengths to maturity, of the bonds we are examining at one point in time. That is, the horizontal axis is not , in this case, a measurement of time into the future as in what interest rates will be in the future. 4-4b Yield Curve Facts We want to use the Yield Curve graph to explain the following facts about interest rates: 1. A Yield Curve generally slopes upward. This means that, holding everything else constant, the yield on long-term bonds tends to be higher than the yield on short-term bonds. 2. The slope of a Yield Curve can and does change. That is, sometimes the Yield Curve is flat, or there is not much difference between short-term yields and long-term yields, whereas other times the Yield Curve is steep, meaning there is a big difference between short-term yields and long-term yields; and sometimes the Yield Curve slopes downward. This downward-sloping Yield Curve is sometimes called an “inverted” yield curve. 3. There often are parallel shifts in a Yield Curve. That is, over time, short-term and long-term interest rates tend to move together. Sometimes all interest rates increase, or the 4-4 3 mo 6 mo 1 yr 5 yr 10 yr 30 yr Term Yield Yield Curve Figure 4-3 The Yield Curve Copyright 2017 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it.
eBook - ePubAn Introduction to Banking
Liquidity Risk and Asset-Liability Management
- Moorad Choudhry(Author)
- 2011(Publication Date)
- Wiley(Publisher)
The Yield Curve describes the relationship between a particular yield and its term to maturity. So, plotting yields of a set of bonds along the maturity structure will give us our Yield Curve. The primary Yield Curve in any domestic capital market is the government bond Yield Curve – for example, in the US market it is the US Treasury Yield Curve. Outside government bond markets, Yield Curves are plotted for Eurobonds, money market instruments, off-balance-sheet instruments – in fact, virtually all debt market instruments. So, it is always important to remember to compare like for like when analysing Yield Curves across markets. Using the Yield Curve The Yield Curve tells us where the bond market is trading now. It also implies the level of trading for the future, or at least what the market thinks will be happening in the future. In other words, it is a good indicator of the future level of the market. It is also a much more reliable indicator than any other used by private investors, and we can prove this empirically. But, for the moment take my word for it! As an introduction to Yield Curve analysis, let us first consider its main uses. All participants in debt capital markets will be interested in the current shape and level of the Yield Curve, as well as what this information implies for the future. The main uses are summarized below. Setting the yield for all debt market instruments. The Yield Curve essentially fixes the price of money over the maturity structure. The yields of government bonds from the shortest maturity instrument to the longest set the benchmark for yields for all other debt instruments in the market, around which all debt instruments are priced. What does this mean? Essentially, it means that if a government 5-year bond is trading at a yield of 5.00%, all other 5-year bonds, whoever they are issued by, will be issued at a yield over 5.00%. The amount over 5.00% that the other bond trades is known as the spread
- Moorad Choudhry(Author)
- 2001(Publication Date)
- Butterworth-Heinemann(Publisher)
6The Yield Curve
So far we have considered the main measure of return associated with holding bonds, which is the yield to maturity or gross redemption yield . In developed markets, as well as a fair number of developing ones, there is usually a large number of bonds trading at one time, at different yields and with varying terms to maturity. Investors and traders frequently examine the relationship between the yields on bonds that are in the same class; plotting yields of bonds that differ only in their term to maturity produces what is known as a Yield Curve . The Yield Curve is an important indicator and knowledge source of the state of a debt capital market.1 It is sometimes referred to as the term structure of interest rates , but strictly speaking this is not correct, as this term should be reserved for the zero-coupon Yield Curve only. We shall examine this in detail later.Much of the analysis and pricing activity that takes place in the bond markets revolves around the Yield Curve. The Yield Curve describes the relationship between a particular redemption yield and a bond’s maturity. Plotting the yields of bonds along the maturity term structure will give us our Yield Curve. It is very important that only bonds from the same class of issuer or with the same degree of liquidity are used when plotting the Yield Curve; for example a curve may be constructed for UK gilts or for AA-rated sterling Eurobonds, but not a mixture of both, because gilts and Eurobonds are bonds from different class issuers. The primary Yield Curve in any domestic capital market is the government bond Yield Curve, so for example in the US market it is the US Treasury Yield Curve. With the advent of the euro currency in 11 countries of the European Union, in theory any euro-currency government bond can be used to plot a default-free euro Yield Curve. In practice only bonds from the same government are used, as for various reasons different country bonds within euroland trade at different yields. Outside the government bond markets Yield Curves are plotted for Eurobonds, money market instruments, off-balance sheet instruments, in fact virtually all debt market instruments. So it is always important to remember to compare like-for-like when analysing Yield Curves across markets.
eBook - ePubThe Moorad Choudhry Anthology
Past, Present and Future Principles of Banking and Finance
- Moorad Choudhry(Author)
- 2018(Publication Date)
- Wiley(Publisher)
The Yield Curve essentially fixes the cost of money over the maturity term structure. The yields of government bonds from the shortest maturity instrument to the longest set the benchmark for yields for all other debt instruments in the market, around which all debt instruments are analysed. Issuers of debt (and their underwriting banks) therefore use the Yield Curve to price bonds and all other debt instruments. Generally, the zero‐coupon Yield Curve is used to price new issue securities, rather than the redemption Yield Curve.Acting as an Indicator of Future Yield Levels
As we discuss later in this chapter, the Yield Curve assumes certain shapes in response to market expectations of future interest rates. Bond market participants analyse the present shape of the Yield Curve in an effort to determine the implications regarding the future direction of market interest rates. This is perhaps one of the most important functions of the Yield Curve. The Yield Curve is scrutinised for its information content, not just by bond traders and fund managers, but also by corporate financiers as part of the project appraisal process. Central banks and government treasury departments also analyse the Yield Curve for its information content, with regard to expected inflation levels.Measuring and Comparing Returns Across the Maturity Spectrum
Portfolio managers use the Yield Curve to assess the relative value of investments across the maturity spectrum. The Yield Curve indicates the returns that are available at different maturity points and is therefore very important to fixed‐income fund managers, who can use it to assess which point of the curve offers the best return relative to other points.Indicating Relative Value Between Different Bonds of Similar Maturity
The Yield Curve can be analysed to indicate which bonds are cheap or dear to the curve. Placing bonds relative to the zero‐coupon Yield Curve helps to highlight which bonds should be bought or sold either outright or as part of a bond spread trade.
eBook - ePubThe Money Markets Handbook
A Practitioner's Guide
- Moorad Choudhry(Author)
- 2011(Publication Date)
- Wiley(Publisher)
CHAPTER 6 The Money Market Yield CurveThe main measure of return associated with holding debt market assets is the yield to maturity or gross redemption yield. In developed markets, as well as certain emerging economies, there is usually a large number of bonds trading at one time, at different yields and with varying terms to maturity. Investors and traders frequently examine the relationship between the yields on bonds that are in the same class; plotting yields of bonds that differ only in their term to maturity produces what is known as a Yield Curve. The Yield Curve is an important indicator and knowledge source of the state of a debt capital market. It is sometimes referred to as the term structure of interest rates, but strictly speaking this is not correct, as this term should be reserved for the zero-coupon Yield Curve only. We shall examine this in detail later.Much of the analysis and pricing activity that takes place in the capital markets revolves around the Yield Curve. The Yield Curve describes the relationship between a particular redemption yield and a bond’s maturity. Plotting the yields of bonds along the term structure will give us our Yield Curve. It is very important that only bonds from the same class of issuer or with the same degree of liquidity are used when plotting the Yield Curve; for example a curve may be constructed for UK gilts or for AA-rated sterling Eurobonds, but not a mixture of both, because gilts and Eurobonds are bonds from different class issuers. The primary Yield Curve in any domestic capital market is the government bond Yield Curve, so for example in the US market it is the US Treasury Yield Curve. With the advent of the euro currency in 12 countries of the European Union, in theory any euro-currency government bond can be used to plot a euro Yield Curve. In practice only bonds form the same government are used, as for various reasons different country bonds within euro-land trade at different yields.
eBook - PDF- Moorad Choudhry, Graham "Harry" Cross, Jim Harrison(Authors)
- 2003(Publication Date)
- Butterworth-Heinemann(Publisher)
Generally the zero-coupon Yield Curve is used to price new issue securities, rather than the redemption Yield Curve. Acting as an indicator of future yield levels As we discuss later in this chapter, the Yield Curve assumes certain shapes in response to market expectations of the future interest rates. Bond market participants analyse the present shape of the Yield Curve in an effort to determine the implications regarding the future direction of market interest rates. This is perhaps one of the most important func-tions of the Yield Curve, and it is as much an art as a science. The Yield Curve is scrutinised for its information content not just by bond traders and fund managers but also by corporate financiers as part of project appraisal. Central banks and government treasury departments also analyse the Yield Curve for its information content, not just regarding forward interest rates but also with regard to expected inflation levels. 193 Measuring and comparing returns across the maturity spectrum Portfolio managers use the Yield Curve to assess the relative value of investments across the maturity spectrum. The Yield Curve indicates the returns that are available at different maturity points and is therefore very important to fixed-income fund managers, who can use it to assess which point of the curve offers the best return relative to other points. Indicating relative value between different bonds of similar maturity The Yield Curve can be analysed to indicate which bonds are cheap or dear to the curve. Placing bonds relative to the zero-coupon Yield Curve helps to highlight which bonds should be bought or sold either outright or as part of a bond spread trade. Pricing interest rate derivative securities The price of derivative securities revolves around the Yield Curve. At the short end, products such as Forward Rate Agreements are priced off the futures curve, but futures rates reflect the market's view on forward three-month cash deposit rates.
eBook - PDFTiming the Market
How to Profit in the Stock Market Using the Yield Curve, Technical Analysis, and Cultural Indicators
- Deborah Weir(Author)
- 2006(Publication Date)
- Wiley(Publisher)
1 yr. 5 yr. 10 yr. 20 yr. 30 yr. FIGURE 3.1 Too Soon to Buy “ The Yield Curve, however, was not normal from three months to one year. Most people do not pay much attention to these very short-term se- curities because they usually have the smallest return; they do, though, have a large impact on the financial markets, the economy, and your in- vestments. These are money market instruments. Money market securities mature within one year and include both corporate and government instruments. In fact, every fixed-income secu- rity of any length eventually falls into this category as it nears maturity. If you buy a 30-year Treasury bond and sell it after 29 years, your broker ex- ecutes your trade through the money market rather than the bond-trading desk. We can get useful information about the economy and the stock market from both corporate and government money market instruments. Some economists pay special attention to Yield Curves in a segment of the corporate money market, commercial paper. Commercial paper is an unsecured debt of, or a good-faith loan to, the corporation that matures within 270 days and usually comes in round lots of a million dollars. This paper appeals to large institutions such as mutual funds because, while only the highest-quality firms are able to borrow in this manner, they still must pay more than the U.S. Treasury pays. You probably own more commercial paper than you think because so many banks, insurance companies, and mutual funds buy it for your accounts. Economists see commercial paper as a window into the issuing firm’s order book. The commercial paper Yield Curve is one place where we may be able to see into the cash flows of the firm. To oversimplify, let us say that General Electric (GE) does not expect to sell a lot of lightbulbs in the next six months. The company therefore may not pay a high interest rate on short-term commercial paper it issues for fear of attracting money to that part of the Yield Curve.
eBook - PDF- Lance Moir(Author)
- 1997(Publication Date)
- Woodhead Publishing(Publisher)
T h e r e a r e t h r e e m a i n s h a p e s of t h e yield c u r v e : n o r m a l o r positive, flat, a n d negative or inverse. 8 0 The structure of interest rates and the Yield Curve N o r m a l o r p o s i t i v e I n this case, rates a r e progressively h i g h e r for l o n g e r p e r i o d s (Figure 5.1). I n a stable interest r a t e e n v i r o n m e n t this s h o u l d o c c u r n a t u r a l l y for t h r e e r e a s o n s : 1 The effect of compound interest. If we deposited for 3 months, col-lected the interest a n d re-deposited for 3 months at the same rate, we would end up with a greater a m o u n t than if we h a d just deposited at that rate for 6 months at the outset. 2 Liquidity preference. If we are offered the same effective return over two different periods, then, all other things being equal, we would choose the shorter period as it provides greater flexibility. 3 Credit risk. T h e longer the period of investment, the greater the chance of default. This is clearly a more significant factor over the very long term. T h e positive yield c u r v e will b e steepest w h e n interest rates a r e e x p e c t e d to rise. I n this case, t h e interest rates q u o t e d a r e b r o a d l y t h e s a m e o v e r all p e r i o d s b e i n g c o n s i d e r e d (Figure 5.2). T h i s yield c u r v e c a n Flat Maturity (months/years) 5 . 1 N o r m a l Yield Curve. 81 Yield % Managing liquidity CD > • Maturity (months/years) 5.2 Flat Yield Curve. arise as a result of c h a n g i n g investor p e r c e p t i o n s . As investors m o v e f r o m p e r i o d s of e x p e c t a t i o n of rising to falling interest rates, t h e y m a y b e c o m e indifferent to t h e m a t u r i t y in w h i c h t h e y m a k e their i n v e s t m e n t . T e c h n i c a l l y , b e c a u s e of t h e effect of c o m p o u n d interest, rates w o u l d b e e x p e c t e d to fall o v e r t i m e .
eBook - PDF- Y. Stander(Author)
- 2005(Publication Date)
- Palgrave Macmillan(Publisher)
We have to choose a Yield Curve model that converges to a fixed level at the longer maturities, because that ensures that long-term rate estimates behave adequately. Say we have a set of bonds and the longest-term bond has a 113 Yield CurveS IN PRACTICE Figure 5.12 A comparison of the average forward and zero prime rate curves that are derived in Table 5.17 term to maturity of 20 years. When we fit a Yield Curve to the bonds and the Yield Curve is upward-sloping after the 20-year point, we will find that long-term rates calculated from the function will be extremely high. Simi- larly when the Yield Curve function is downward-sloping at the long end after the 20-year point, the long-term rates calculated from the function will converge to zero and may even go negative, which is also undesirable. In truth we do not know what the actual rates are after the 20-year point, so a better idea is to just choose a function that converges to the level of the rate at the 20-year point. This will ensure that we keep the longest-term rate (that is known in the market) constant and do not make any additional assumptions regarding the very long-term rates. Please refer to Chapter 4 for a discussion on the extrapolation techniques. Finally a curve also has to be derived from instruments with similar liquidity and credit quality, otherwise there will be distortions in the curve and it will not adequately reflect market rates. In deriving any type of Yield Curve, there are a lot of decisions that have to be made. Even the simplest decision, for instance which interpolation technique to use, can have an adverse effect on the final Yield Curve. Incor- rect decisions or over-complicating Yield Curve models lead to model risk. Model risk is discussed in detail in Chapter 8. Yield Curve MODELING 114
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