6 - The yield curve

Abstract

This chapter considers the yield to maturity yield curve as well as other types of yield curve that may be constructed. How to derive spot and forward yields from a current redemption yield curve has also been considered. The chapter summarizes the main uses of the yield curve. Some of its uses are setting the yield for all debt market instruments, acting as an indicator of future yield levels, and measuring and comparing returns across the maturity spectrum. The yield curve describes the relationship between a particular redemption yield and a bond's maturity. The yield curve essentially fixes the cost of money over the maturity term structure. Portfolio managers use the yield curve to assess the relative value of investments across the maturity spectrum. The most commonly occurring yield curve is the yield to maturity yield curve. The coupon yield curve is a plot of the yield to maturity against term to maturity for a group of bonds with the same coupon. The par yield curve is not usually encountered in secondary market trading. However, it is often constructed for use by corporate financiers and others in the new issues or primary market. The zero-coupon or spot yield curve plots zero-coupon yields or spot yields against term to maturity. A zero coupon yield is the yield prevailing on a bond that has no coupons.