nominal spread, OAS, and Z-spread

CFA Level I
#1

I’ve looked at previous posts, and I’m even more confused now.

I know for certain that if the yield curve is flat then:

Nominal = Z spread

if it’s an option free bond then:

OAS = Z spread

what I’m confused is:

callable bonds have Z-spreads > OAS?

Can someone please help? is this correct?

#2

Yes, that is correct, for a callable bond:

z-spread = OAS + cost of call option

so z-spread is greater than OAS.

#3

Yes Z > OAS Callable bond… Means option cost is positive ( Z-spread - OAS) > 0

Z-Spread< OAS Putable bond… Meand Option cost is negative ( Z-Spread- OAS) < 0

***think about it this way… Price of a callable bond equals Price of an Option free bond + ( the negative option cost)… SO its actually: Price of option freebond - option cost… The Value to the holder of a callable bond will be less than the one of the option free bond (so you will require a higuer yield to hold it)…Same logic with the putable bond…Hope thats clear.

#4

thanks!

#5

i had some trouble with it too, but the way i now understand it is:

a normal bond of a certain credit quality/maturity etc has a certain z sprea “x”

the same exact bond that is callable has the same z spread plus an OAS to pay for the call…

am i correct here?