For options that benefit the issuer, such as calls, investors will want yield spreads that are greater than bonds and that do not have options embedded in them. Because there is a risk that the bonds will be called, investors want a higher yield to compensate for that risk, causing the spread to widen over the treasury security when compared to bonds without options. The longer the call period, the less spread widening investors will be needed because of a longer protection period against the call.

Options That Benefit the Holder
For options that benefit the holder, such as puts, investor will require a smaller yield spread than bonds that do not have embedded options in them, such as treasury bonds. There is even the possibility that the coupon rate could be lower than the treasury coupon rate, depending on how favorable the option is to the investors.

Spreads and Liquidity
When issues are less liquid, yield spreads tend to widen because there are fewer bonds to buy or it is harder to find a buyer. When issues are more liquid, such as on-the-run treasuries, yield spreads are tighter or narrower because there are plenty of buyers and sellers.

The larger the issue size, the more liquidity compared to a smaller issues in the market leads to tighter or narrower spreads and vice versa.

After Tax Yield of a Taxable Security

Related Articles
  1. Investing

    Understanding Yield Spread

    Yield spread is the difference in yields between debt instruments.
  2. Trading

    Option Spread Strategies

    Learn why option spreads offer trading opportunities with limited risk and greater versatility.
  3. Trading

    Explaining Credit Spread

    A credit spread has two different meanings, one referring to bonds, the other to options.
  4. Investing

    How To Calculate The Bid-Ask Spread

    It's very important for every investor to learn how to calculate the bid-ask spread and factor this figure when making investment decisions.
  5. Investing

    Find The Right Bond At The Right Time

    Find out which bonds you should be investing in and when you should be buying them.
  6. Investing

    Guide To Embedded Options In Bonds

    Investors should be aware of embedded options that may be available in certain securities as these options may affect the value of the security.
  7. Trading

    S&P 500 Options On Futures: Profiting From Time-Value Decay

    Writing bull put credit spreads are not only limited in risk, but can profit from a wider range of market directions.
Frequently Asked Questions
  1. What's the Best Way to Contact Warren Buffett?

    Learn how to contact Warren Buffett and what kinds of contact is most likely to receive a response from him or from his company, ...
  2. What is the Financial Services Sector?

    A diverse group of companies, beyond banks and credit unions, comprises the financial services sector.
  3. Who are Whole Foods' (WFM) main competitors?

    Whole Foods' main competitors are Sprouts Farmers Markets and Trader Joe's. However, the recent acquisition by Amazon my ...
  4. What caused the Stock Market Crash of 1929 that preceded the Great Depression?

    Find out what led to the stock market crash of 1929, which in turn led to the Great Depression. It sparked a nearly 90% loss ...
Trading Center