17:
287:
This difference in convexity can also be used to explain the price differential from an MBS to a
Treasury bond. However, the OAS figure is usually preferred. The discussion of the "negative convexity" and "option cost" of a bond is essentially a discussion of a single MBS feature (rate-dependent cash
106:. More loosely, the OAS of a security can be interpreted as its "expected outperformance" versus the benchmarks, if the cash flows and the yield curve behave consistently with the valuation model.
268:(second derivative of price over yield), meaning that the price has more downside than upside as interest rates vary. The MBS-holder's exposure to borrower prepayment has several names:
253:
borrowers will tend to exercise this right when it is favourable for them and unfavourable for the bond-holder, buying an MBS implicitly involves selling an option. (The presence of
825:
257:
can create further optionality.) The embedded "option cost" can be quantified by subtracting the OAS from the Z-spread (which ignores optionality and volatility).
32:
813:
819:
183:
426:
379:
749:
744:
353:
334:
857:
739:
615:
28:
249:
relates primarily to the right of property owners, whose mortgages back the security, to prepay the mortgage amount. Since
555:
595:
125:
than noncallable debt, and their values are more fairly compared by OAS than by yield. OAS is usually measured in
852:
419:
754:
99:
91:
148:
or Z-spread), the OAS quantifies the yield premium using a probabilistic model that incorporates two types of
36:
847:
20:
590:
24:
132:
For a security whose cash flows are independent of future interest rates, OAS is essentially the same as
734:
698:
535:
494:
144:
In contrast to simpler "yield-curve spread" measurements of bond premium using a fixed cash-flow model (
48:
412:
397:
175:
149:
40:
504:
229:
Treasury bonds (or alternate benchmarks, such as the noncallable bonds of some other borrower, or
580:
254:
230:
186:
techniques are generally used to simulate hundreds of yield-curve scenarios for the calculation.
163:
114:
75:
52:
787:
713:
565:
487:
375:
349:
330:
312:
297:
281:
206:
225:
that equates the market price of the MBS to its expected value in this theoretical framework.
777:
648:
620:
560:
545:
103:
44:
792:
782:
585:
575:
570:
499:
233:) are generally not available with maturities exactly matching MBS cash flow payments, so
122:
87:
16:
693:
678:
643:
630:
605:
509:
477:
446:
265:
202:
171:
170:
Designing such models in the first place is complicated because prepayment rates are a
95:
83:
182:
interest rate. (They tend to go up as interest rates come down.) Specially calibrated
841:
797:
772:
683:
668:
658:
610:
550:
540:
261:
250:
234:
157:
110:
708:
653:
600:
530:
456:
209:) across the range of all possible rate scenarios when discounting each scenario's
63:
764:
703:
663:
638:
514:
482:
472:
435:
126:
118:
71:
67:
179:
451:
718:
673:
327:
Salomon Smith Barney Guide to
Mortgage-Backed and Asset-Backed Securities
307:
302:
264:
fall and vice versa, the basic (pass-through) MBS typically has negative
145:
133:
390:
23:
are widely applied in mathematical finance; here used in calculating an
190:
113:, the embedded option relates primarily to the borrower's right to
79:
15:
90:. OAS is hence model-dependent. This concept can be applied to a
408:
404:
391:"Risk Metric Definitions: Option-Adjusted Spread (OAS)"
826:
Securities
Industry and Financial Markets Association
121:
the debt. These securities must therefore pay higher
806:
763:
727:
629:
523:
465:
193:. The definition here is based on Lakhbir Hayre's
189:OAS is an emerging term with fluid use across MBS
372:Introduction to Option-Adjusted Spread Analysis
197:textbook. Other definitions are rough analogs:
117:, a right commonly exercised via the borrower
420:
213:with the Treasury yield curve plus a spread,
8:
237:are necessary to make the OAS calculation.
814:Commercial Mortgage Securities Association
427:
413:
405:
820:International Capital Market Association
346:Options, Futures and Other Derivatives
219:. The OAS is defined as the value of
66:which has to be added to a benchmark
35:. These are used for settings beyond
7:
260:Since prepayments typically rise as
98:with embedded options, or any other
43:, even in those settings, banks use
750:Commercial mortgage-backed security
389:Risk Management Task Force (2004).
288:flows) measured in different ways.
27:. Other common pricing-methods are
745:Collateralized mortgage obligation
14:
245:For an MBS, the word "option" in
78:'s payments to match its market
740:Collateralized debt obligation
616:Reverse convertible securities
1:
109:In the context of an MBS or
556:Contingent convertible bond
874:
596:Inverse floating rate note
195:Mortgage-Backed Securities
82:, using a dynamic pricing
51:models to incorporate the
442:
755:Mortgage-backed security
524:Types of bonds by payout
466:Types of bonds by issuer
100:interest rate derivative
92:mortgage-backed security
325:Hayre, Lakhbir (2001).
689:Option-adjusted spread
591:Inflation-indexed bond
344:Hull, John C. (2006).
247:option-adjusted spread
60:Option-adjusted spread
56:
858:Fixed income analysis
735:Asset-backed security
699:Weighted-average life
536:Auction rate security
49:stochastic volatility
19:
728:Securitized products
398:Society of Actuaries
370:Miller, Tom (2007).
505:Infrastructure bond
374:. Bloomberg Press.
231:interest rate swaps
166:rates (for an MBS).
39:by Black-Scholes.
581:Floating rate note
255:interest-rate caps
94:(MBS), or another
86:that accounts for
57:
53:volatility surface
835:
834:
788:Exchangeable bond
714:Yield to maturity
566:Exchangeable bond
488:Subordinated debt
381:978-1-57660-241-6
313:Yield to maturity
298:Asset swap spread
282:reinvestment risk
211:actual cash flows
865:
853:Embedded options
778:Convertible bond
621:Zero-coupon bond
561:Convertible bond
546:Commercial paper
429:
422:
415:
406:
401:
395:
385:
359:
340:
178:function of the
129:(bp, or 0.01%).
88:embedded options
873:
872:
868:
867:
866:
864:
863:
862:
838:
837:
836:
831:
802:
793:Extendible bond
783:Embedded option
759:
723:
625:
586:High-yield debt
576:Fixed rate bond
571:Extendible bond
519:
500:Government bond
495:Distressed debt
461:
438:
433:
393:
388:
382:
369:
366:
364:Further reading
356:
343:
337:
324:
321:
294:
278:prepayment risk
243:
142:
115:early repayment
37:those envisaged
12:
11:
5:
871:
869:
861:
860:
855:
850:
848:Bond valuation
840:
839:
833:
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829:
823:
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742:
737:
731:
729:
725:
724:
722:
721:
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711:
706:
701:
696:
694:Risk-free bond
691:
686:
681:
679:Mortgage yield
676:
671:
666:
661:
656:
651:
646:
641:
635:
633:
631:Bond valuation
627:
626:
624:
623:
618:
613:
608:
606:Perpetual bond
603:
598:
593:
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583:
578:
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568:
563:
558:
553:
548:
543:
538:
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527:
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520:
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512:
510:Municipal bond
507:
502:
497:
492:
491:
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485:
478:Corporate bond
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365:
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341:
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315:
310:
305:
300:
293:
290:
285:
284:
279:
276:
275:extension risk
273:
266:bond convexity
262:interest rates
242:
239:
235:interpolations
227:
226:
203:expected value
172:path-dependent
168:
167:
160:
158:interest rates
141:
138:
13:
10:
9:
6:
4:
3:
2:
870:
859:
856:
854:
851:
849:
846:
845:
843:
827:
824:
821:
818:
815:
812:
811:
809:
805:
799:
798:Puttable bond
796:
794:
791:
789:
786:
784:
781:
779:
776:
774:
773:Callable bond
771:
770:
768:
766:
762:
756:
753:
751:
748:
746:
743:
741:
738:
736:
733:
732:
730:
726:
720:
717:
715:
712:
710:
707:
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702:
700:
697:
695:
692:
690:
687:
685:
684:Nominal yield
682:
680:
677:
675:
672:
670:
667:
665:
662:
660:
659:Current yield
657:
655:
654:Credit spread
652:
650:
647:
645:
642:
640:
637:
636:
634:
632:
628:
622:
619:
617:
614:
612:
611:Puttable bond
609:
607:
604:
602:
599:
597:
594:
592:
589:
587:
584:
582:
579:
577:
574:
572:
569:
567:
564:
562:
559:
557:
554:
552:
549:
547:
544:
542:
541:Callable bond
539:
537:
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532:
529:
528:
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522:
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377:
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368:
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357:
355:0-13-149908-4
351:
347:
342:
338:
336:0-471-38587-5
332:
328:
323:
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314:
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185:
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177:
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159:
155:
154:
153:
151:
147:
139:
137:
135:
130:
128:
124:
120:
116:
112:
111:callable bond
107:
105:
101:
97:
93:
89:
85:
81:
77:
73:
69:
65:
62:(OAS) is the
61:
54:
50:
46:
42:
38:
34:
30:
26:
22:
18:
807:Institutions
765:Bond options
709:Yield spread
688:
601:Lottery bond
531:Accrual bond
457:Fixed income
371:
345:
326:
286:
259:
246:
244:
228:
221:
220:
215:
214:
210:
194:
188:
169:
143:
131:
127:basis points
108:
64:yield spread
59:
58:
704:Yield curve
664:Dirty price
639:Clean price
515:Global bond
483:Senior debt
473:Agency bond
436:Bond market
348:. Pearson.
184:Monte Carlo
176:behavioural
119:refinancing
68:yield curve
41:Post crisis
842:Categories
319:References
180:stochastic
164:prepayment
150:volatility
140:Definition
29:simulation
644:Convexity
452:Debenture
329:. Wiley.
272:call risk
241:Convexity
201:Take the
162:Variable
156:Variable
719:Z-spread
674:I-spread
669:Duration
308:Z-spread
303:I-spread
292:See also
251:mortgage
146:I-spread
134:Z-spread
76:security
72:discount
828:(SIFMA)
191:finance
21:"Trees"
822:(ICMA)
816:(CMSA)
649:Coupon
551:Consol
378:
352:
333:
205:(mean
123:yields
104:option
394:(PDF)
84:model
80:price
45:local
447:Bond
376:ISBN
350:ISBN
331:ISBN
174:and
96:bond
47:and
33:PDEs
31:and
207:NPV
102:or
70:to
25:OAS
844::
396:.
152::
136:.
74:a
428:e
421:t
414:v
400:.
384:.
358:.
339:.
222:X
216:X
55:.
Text is available under the Creative Commons Attribution-ShareAlike License. Additional terms may apply.
