The author would like to acknowledge helpful comments from Tom Smith, the Editor, an anonymous Referee, and seminar participants at the Australian National University, the Reserve Bank of Australia and the Australian Office of Financial Management.
Bond pricing with a surface of zero coupon yields
Version of Record online: 16 APR 2012
© 2012 The Author. Accounting and Finance © 2012 AFAANZ
Accounting & Finance
Volume 53, Issue 2, pages 497–512, June 2013
How to Cite
Murik, V. A. (2013), Bond pricing with a surface of zero coupon yields. Accounting & Finance, 53: 497–512. doi: 10.1111/j.1467-629X.2012.00479.x
- Issue online: 3 MAY 2013
- Version of Record online: 16 APR 2012
- Received 13 November 2011; accepted 1 March 2012 by Robert Faff (Editor).
- Credit premia;
- Liquidity premia;
- Zero coupon yield curve estimation;
- Thin plate regression spline
We present a new method for consistent cross-sectional pricing of all traded bonds in the fixed income market. By applying thin plate regression splines (Wood, 2003) to bootstrapped zero coupon bond yields (Hagan and West, 2006), the method decomposes traded yields into a risk-free component plus premia for credit and liquidity risks, where the decomposition is consistent with the market valuations and underlying cash flows of the bonds. We apply the framework to end of quarter yield data from 2008 to 2011 on Australian dollar denominated semi-government, supranational and agency (SSA) bonds, and find that the surface provides an excellent fit to the underlying zero coupon yield curves. Further, the decomposition of selected yield time series and cross-sections demonstrates how credit premia increased for Australian SSA bonds through the Global Financial Crisis (GFC), but were counterbalanced by liquidity discounts as investors sought safe haven securities.