Spot Rate Treasury Curve

AAA

DEFINITION of 'Spot Rate Treasury Curve'

A yield curve constructed using Treasury spot rates rather than yields. The spot rate Treasury curve can be used as a benchmark for pricing bonds. This type of rate curve can be built from on-the-run treasuries, off-the-run treasuries or a combination of both. Alternatively, the Treasury curve can be calculated by using Treasury coupon strips.

INVESTOPEDIA EXPLAINS 'Spot Rate Treasury Curve'

Because many bonds typically have multiple cash flows (coupon payments) at different points in the bonds' lives, it is not theoretically correct to use just one interest rate to discount all of the cash flow. Therefore, in order to make a sound bond valuation, it is good practice to match up and discount each coupon payment with the corresponding Treasury spot rate for pricing the present value of each price.

For example, suppose that a corporate two-year 10% coupon bond is being priced using Treasury spot rates. The Treasury spot rates for the subsequent four periods (each year is composed of two periods) are 8%, 8.05%, 8.1% and 8.12%, and the four corresponding cash flows are $5, $5, $5, $105. The present value for each respective cash flow will be $4.81, $4.62, $4.44 and $89.50. Therefore, the sum of all the cash flows will be $103.36.

However, $103.36 is not necessarily the price at which the corporate bond will ultimately be sold. Because the spot rates used to price bonds reflect rates that are from default-free Treasuries, the corporate bond's price will need to be further discounted to account for its increased risk compared to Treasury bonds.

RELATED TERMS
  1. Spot Rate

    The price that is quoted for immediate settlement on a commodity, ...
  2. Off-The-Run Treasuries

    All Treasury bonds and notes issued before the most recently ...
  3. Yield

    The income return on an investment. This refers to the interest ...
  4. Yield Curve

    A line that plots the interest rates, at a set point in time, ...
  5. Off-The-Run Treasury Yield Curve

    The U.S. Treasury yield curve derived using off-the-run treasuries. ...
  6. Zero-Volatility Spread - Z-spread

    The constant spread that will make the price of a security equal ...
RELATED FAQS
  1. On what basis does the sustainable growth rate fluctuate?

    The main difference between a bond’s yield to maturity, or YTM, and the spot rate is that the YTM uses the same interest ... Read Full Answer >>
  2. Can a business ever be too small to issue commercial paper?

    There are effective – though not legal – restrictions on the size of commercial paper issuers. Any company can issue commercial ... Read Full Answer >>
  3. How can I create a yield curve in Excel?

    You can create a yield curve in Microsoft Excel if you are given the time to maturities of bonds and their respective yields ... Read Full Answer >>
  4. What are the different formations of yield curves?

    There are three main different formations of yield curves: normal, inverted and flat yield curves. The yield curve describes ... Read Full Answer >>
  5. What are the tax benefits of establishing a sinking fund?

    The primary tax benefit available through the creation of a sinking fund is a deduction for interest payments made. The other ... Read Full Answer >>
  6. In what ways can a sinking fund affect bond returns?

    The effective yield of a bond sinking fund to an investor should not be considered similar to a bond nonsinking fund. Both ... Read Full Answer >>
Related Articles
  1. Bonds & Fixed Income

    Corporate Bonds: An Introduction To Credit Risk

    Corporate bonds offer higher yields, but it's important to evaluate the extra risk involved before you buy.
  2. Bonds & Fixed Income

    The Impact Of An Inverted Yield Curve

    Find out what happens when short-term interest rates exceed long-term rates.
  3. Investing Basics

    Interest Rates And Your Bond Investments

    By understanding the factors that influence interest rates, you can learn to anticipate their movement and profit from it.
  4. Professionals

    Why You Should Avoid Fixating on Bond Duration

    Financial advisors and their clients should then focus on a bond fund’s portfolio rather than relying on any single metric like duration.
  5. Investing

    The Case For Stocks Today

    Last week, U.S. equities advanced with the S&P 500 Index notching new records. Investors are now getting nervous with rate and currency volatility spiking.
  6. Mutual Funds & ETFs

    Why You May Want To Be (And Stay) In Bonds

    Bonds are complicated, and it’s easy to feel intimidated or confused. Fortunately, you don’t need to be a numbers geek to be an informed investor.
  7. Mutual Funds & ETFs

    How To Short The U.S. Bond Market

    The U.S. bond market has enjoyed a strong bull run over the past few years as the Federal Reserve has lowered interest rates to historic low levels.
  8. Investing

    Why Some Investors Are Tilting Toward TIPS

    Last month’s five-year TIPS auction drew nearly $48 billion in interest, a sign of recent renewed demand for this inflation indexed asset among investors.
  9. Mutual Funds & ETFs

    The EMAG Emerging Mkts Bond ETF: Worth the Risk?

    The Market Vectors Emerging Markets Aggregate Bond ETF (EMAG) might offer long-term rewards, but is now the best time to jump in?
  10. Mutual Funds & ETFs

    5 Dividend ETFs with Growth Potential

    A quick look at a few ETFs with substantial growth potential.

You May Also Like

Hot Definitions
  1. Yield Curve

    A line that plots the interest rates, at a set point in time, of bonds having equal credit quality, but differing maturity ...
  2. Productivity

    An economic measure of output per unit of input. Inputs include labor and capital, while output is typically measured in ...
  3. Variance

    The spread between numbers in a data set, measuring Variance is calculated by taking the differences between each number ...
  4. Terminal Value - TV

    The value of a bond at maturity, or of an asset at a specified, future valuation date, taking into account factors such as ...
  5. Rule Of 70

    A way to estimate the number of years it takes for a certain variable to double. The rule of 70 states that in order to estimate ...
  6. Risk Premium

    The return in excess of the risk-free rate of return that an investment is expected to yield. An asset's risk premium is ...
Trading Center