ADM 3351 Lecture Notes - Lecture 5: Callable Bond, Market Segmentation, Call Option

• School: University of Ottawa
• Department: Administration
• Course: ADM 3351
• Professor: Chen Guo

Document Summary

Credit risk or default risk refers to the risk associated with the possibility that the issuer of a bond may be unable to make timely principal and/or interest payments. Market participants throughout the world view a treasury security as having no credit risk because it is issued by the u. s. Department of the treasury and backed by the full faith and credit of the u. s. government. The base interest rate (or benchmark interest rate) is the minimum interest rate that investors demand for investing in a non-treasury security. The base interest rate is typically viewed as the yield to maturity (or simply the yield) offered on a comparable maturity treasury security that was most recently issued. We can express the interest rate offered on a non-treasury security as: base interest rate + spread where spread can be viewed as the required risk premium.