Explanation:
Option B is false. The yield spread (or nominal spread) is standardly defined as the difference between the bond's yield-to-maturity (YTM) and the YTM of a benchmark (such as a risk-free Treasury bond) of matching maturity. It is incorrect to define the yield spread as the difference between the bond's overall YTM and a single short-term point on the spot curve (e.g., the six-month spot rate).
Option C is true because higher perceived credit risk increases the risk premium required by investors, leading to higher yields (shifting curves upward) and lower prices. Option D is true as the Z-spread (zero-volatility spread) is a constant spread that must be added to the entire risk-free spot rate curve to match the bond's market price. Thus, it represents the uniform difference between the bond's implied spot rates and the risk-free spot rates.
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Each of the following is true about this bond EXCEPT which is false?
A
The bond's yield-to-maturity is 4.0%
B
The yield spread, represented by the solid red vertical arrow, is the difference between 4.0% (yellow line) and 0.40% (spot rate at six months)
C
If the price of the bond decreased due solely to perceived credit risk of bond (without any change in market risk), the upper curves (yellow and blue) would shift up
D
The z-spread, represented by the dashed red vertical arrow, is the difference between the (upper steep) blue line and the (lower steep) spot rate; e.g., 2.42% = 4.03% - 1.61%
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