Why is a risk factor necessary in credit derivatives whose payout is dependent on changes to the credit spread? Possible answers: A: Because it reflects the extra uncertainty inherent in non-investment grade bonds B: Because it reflects the bond’s modified duration and therefore its sensitivity to yield changes C: To enable gearing D: Because changes to the credit spread are small and spread derivative bets are for large amounts of money
A. B is like a yield beta.
and it is B and B and B because I say it is B
cuz the CFAI said so…isay the answer is B
The answer is: B The risk factor is the bond’s modified duraton. This means payouts from the spread derivatives should be sufficient to cover value changes in the underlying bond.
Damn, I guessed A. That was pretty tricky.
You guys rock! Duration is a Primary Risk Factor, but yield beta is not…man, simply memorizing a term didn’t work.
The “risk factor” discussed here is number used in payout formula (check credit derivatives in volume 4)…
B is the best possible answer. “the risk factor is the value change of the security for a one basis point change in the credit spread.” (V4, p. 125).