Credit Spread (Bonds)

Credit spread is also known as yield spread. Credit spread refers to the difference in yield of different securities. Such difference in yield arises due to the difference in credit quality of different instruments. The credit spread of a bond lets you know the additional net yield accruing to a security due to higher risk involved. A security with higher risk is required to give higher yield than the one with the lower risk. The credit spread for a particular instrument or security is generally quotes in relation to yield on a risk free instrument. It may also be quoted in relation to a reference rate. Such risk free security is generally US Treasury Bond. Alternatively, LIBOR may be used as a reference rate for quoting credit spread on a bond. Various methods such as option adjusted spread and Z spread are used to measure credit spread.