OAS Question

Schweser says “generally speaking, an analyst would like the adjusted spread (OAS) to be big.” Can someone please explain why? Thanks.

It means that bigger adjusted OAS reflects bigger compensation of risks from Credit Risk, Liquidity Risk and Modeling Risk. Bigger OAS is more conservative in pricing these risks.

^… if OAS is too low, then those risks are priced too cheap and an analyst may not be comfortable with that.

A larger OAS implies a greater return for greater risks.

But CFAI text also says “if a particular security by the issuer is fairly priced, its OAS should be equal to zero.”

OAS is the spread (over a benchmark), that prices Credit Risk, Liquidity Risk and Modeling Risks, as compared to that benchmark. But, if you are using the benchmark in the model, then OAS from that model should be 0. These risks for the benchmark over that same benchmark should be 0, right? Does it make sense?

^ if issuer issues a security and you are trying to price that security with that same issuer’s other securities as a benchmark, then OAS for the new security should be 0 from that model. This is because benchmark is the issuer itself and should not have any additional credit risk on top of what has been previously captured in securities you are using as benchmark.

haha, got it! thx dude!