Question

During recessions investors often move resources to safer assets in a “flight to safety”, the result is fluctuating spreads. Consider the below bond prices for bonds of different levels of risk. Each has semi-annual coupon payments of $2.50 and 10 years to maturity. Risk Rating: Price without recession: Price during recession: AAA $117.17 $115.30 BBB $108.18 $103.99 US T-Note $122 $122.99 a. Calculate yields for each bond in each period. b. What are the yield spreads between these assets and the T-Note in each period?

Answer 1

Part (a):

Yield of AAA rated bond without recession= 3.00%

Yield of AAA rated bond during recession= 3.20%

Yield of BBB rated bond without recession= 4.00%

Yield of BBB rated bond during recession= 4.50%

Yield of T- Note without recession= 2.50%

Yield of T-Note during recession= 2.40%

Part (b):

Yield spread of AAA bond with T-Note without recession= 0.50%

Yield spread of AAA bond with T-Note during recession= 0.80%

Yield spread of BBB bond with T-Note without recession= 1.50%

Yield spread of BBB bond with T-Note during recession= 2.10%

Calculations as below: