Yield Duration Australian Bond 7.65% 6.5 New Zealand Bond 6.85% 5.3 Cal how much either of the yields need to change to offset the current yield advantage of Australian Bond. Answer: Australian Bond yield increse by 6BP, New Zealand yield decrease by 8BP. I am confused about the direction of the yield. How can increase in the yield of Australian bond offset the yield advantage of australian Bond?? Shouldn’t this be opposite?
Since the holding period is 6 months, the yield advantage of the Australian bond over the New Zealand bond is (7.65%-6.85%)/2 = 40bps With a duration of 6.5, the price change for the Australian bond will be 6.5 * changes in yield. Therefore the change in yield = 40bps / 6.5 = 6.15 bps. Since Australian bond is the one currently with the yield advantage, its yields will have to increase 6.15 bps to wipe out the 6-month yield advantge of 40 bps relative to the New Zealand bond. Vice versa, the disadvantaged New Zealand bond’s yield will have to decline 40bps/5.3 = 7.5bps to break even with the Australian bond.
Thanks ‘‘HappyKing02’’. Basically yield on bond with higher yield needs to increase further to setoff the current advantage. thanks again.
JUst one question if anyone can advise: How do you reconcile the fact that the yield advantage of investing in Australian bond may disapper if the Australian bond yields decline and NZ bond yields increase?
pmoonoi Wrote: ------------------------------------------------------- > JUst one question if anyone can advise: > How do you reconcile the fact that the yield > advantage of investing in Australian bond may > disapper if the Australian bond yields decline and > NZ bond yields increase? I think it should be the other way, i.e., yield advantage of investing in Australian bond may disapper if the Australian bond yields increase and NZ bond yields decrease.
agree with happyking’s logic.
happyking02 Wrote: ------------------------------------------------------- > pmoonoi Wrote: > -------------------------------------------------- > ----- > > JUst one question if anyone can advise: > > How do you reconcile the fact that the yield > > advantage of investing in Australian bond may > > disapper if the Australian bond yields decline > and > > NZ bond yields increase? > > > I think it should be the other way, i.e., yield > advantage of investing in Australian bond may > disapper if the Australian bond yields increase > and NZ bond yields decrease. It is correct, I got this from the recommending reading “Managing Investment Portfolios. A Dynamic Progress” 3rd Edition (CFA Institute Investment Series). Here’s the extract: PP398 para 6.3 Breakeven spread analysis. Line 6 reads: Yield relationships can change because of a variety of factors. Furthermore, even a constant yield spread across markets may produce different returns. One reason is that prices of securities that vary in coupon and maturity respond differently to changes in yield: Duration plays an important role in breakeven spread analysis. Also, the yield advantage of investing in a foreign country may disappear if domestic yields INCREASE and foreign yields DECLINE." So you can see why I am confused now bec applying the breakeven spread analysis, the yield on the Australian bond must increase by 6.15bps for the yield advantage to disappear (here we are assuming Australian bond is the foreign bond w yield advantage over NZ bond). But if you apply the text above, it also seems to say the yield adv can disappear if the Australian bond yield decline.