Normal spread, Financial Management

After the calculation of cash flow yield and the average life of the asset-backed and mortgage-backed security based on default, prepayment and recovery assumptions, the next thing to do is to compare the yield to a benchmark yield. Benchmark yield is the yield of treasury security which has the same maturity as the security's average life. Nominal spread is defined as the difference between cash flow yield and the yield of a comparable Treasury security. A normal spread has certain disadvantages. A part of nominal spread is compensation for accepting prepayment risk. Let us consider CMO support tranches that have been offered at a huge nominal spread. As we have seen earlier, nominal spread embodies substantial prepayment risk associated with support tranches. If a manager buys these CMO support tranches based on nominal spread, he will not succeed in determining whether or not the offered nominal spread is an adequate return given the substantial prepayment risk the support tranche holder has faced. Therefore, the manger should use measures like option-adjusted spread to indicate the potential compensation after adjusting for prepayment risk. 

Posted Date: 9/10/2012 8:09:52 AM | Location : United States

Related Discussions:- Normal spread, Assignment Help, Ask Question on Normal spread, Get Answer, Expert's Help, Normal spread Discussions

Write discussion on Normal spread
Your posts are moderated
Related Questions
In 1952, to provide equilibrium between assets and liabilities of insurance companies, Frank Redington, an English actuary, proposed interest rate immunization te

Sunk Cost This is a cost which has already been incurred and cannot be affected through present or future decisions.

Q. What is Affiliated Company? Affiliated Company - Company or other organization related through common ownership,common control of management or owners or through some other

Regulation of Mergers and acquisitions Mergers and acquisitions are regulated by: Competition commission If office of fair trading thinks that merg

CHROMEX PLC Payback period Payback period must be based on cash flows that is the cash generated from operations and the capital invested by Chromex. Profit is different f

Sovereign debt is a debt instrument guaranteed by the government. The other names for sovereign debts are sovereign bonds or government bonds. They are issued in

1. Collect three years of recent, financial data (2007 - current), including the Balance Sheet, Income Statement, and Statement of Cash Flow. a. REQUIRED - paper copies o

The difference between the cost of attending a particular school and the expected family contribution, minus any other financial aid.

are footnotes important in analysing ratios

What is Capital Asset Pricing Model? Please provide me report on Capital Asset Pricing Model. It is about 2000 words count report on topic Capital Asset Pricing Model.