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UNDERSTANDING
YIELD CURVES
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1
10
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A yield curve is a line graph that illustrates the relationship between the yields
Term to Maturity
and maturities of fixed income securities.
Yield to Maturity %
Yiled
Yield to Maturity %
Yield curve graphs provide a quick way to review and compare the yields that
different types of fixed income securities offer, and to determine investor
expectations for market conditions in the future. They are created by plotting the
yields of different maturities for the same type of bond. The spreads between
the yields9 of different maturities
are what create the slope, or shape, of the yield
Government
curve for8a given type ofAAA
security.
8
7
6
5
4
3
2
1
0
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30
prudentialfunds.com
Yield to Maturity %
a similar maturity, non-US Treasury security should offer adequate compensation for
any additional risks incurred by the investor.
7
Yield curves
may be created for any type of fixed income security, including
6
5
US Treasury
securities, investment grade and high yield corporate securities,
4
global bonds,
and municipal bonds. The yield curve for US Treasury securities is
3
considered
a market benchmark, as it is often used as a basic reference point by
2
fixed income
investors to evaluate market conditions. It is also used as a benchmark
1
0
to evaluate
the relative attractiveness of investing in non-US Treasury securities. This
1 Treasuries,
2
3 in4 theory,
5 have
6 no
7 credit
8 risk,
9 so10the extra
30 yield offered by
is because US
Term to Maturity: Years
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5
4
3
2
1
Yield to Maturity %
3
2
5
6
7
Term to Maturity
10
SPREADS
Govt
AAA
AA
AAA
AA
1 Year
4.00%
4.15%
4.45%
0.15%
0.45%
2 Year
4.25
4.45
4.90
0.20
0.65
3 Year
4.50
4.75
5.20
0.25
5 Year
5.00
5.30
5.90
0.30
10 Year
6.00
6.50
7.25
0.50
1.25
30 Year
7.00
7.70
8.50
0.70
1.50
0.70
Yiled
Yield to Maturity %
Government
AAA
AA
0.90
Yield to Maturity %
rity %
7
6
5
30
8
7
6
5
4
3
2
1
0
3
5
10
Term to Maturity: Years
10
30
30
7
6
FIXED INCOME PRIMER
5
4
10 3 30
2
1
Finally,
a humped yield curve indicates an expectation of
0
higher
rates in the middle of the maturity periods covered,
2
3
4
5
6
7
8
9 10 30
perhaps1 reflecting
investor
uncertainty
about
specific
Term to Maturity: Years
Yield to Maturity %
Yield to Maturity %
4
3
2
3 TELLS
4 A STORY
5
6
7
8
9
EVERY1YIELD2 CURVE
Term to
Maturity
The shape of a yield curve provides
valuable
information to
Yield to Maturity %
Yield to Maturity %
Yield to Maturity %
Yield to Maturity %
9
8
7
6
5
4
3
Normal
Government
AAA
Yield Curve
AA
1
2
3
5
10
5
6 Maturity:
7
8 Years
9 10
Term
to
30
30
An inverted yield curve, on the other hand, occurs when longterm yields fall belowNormal
short-term
yields.
An inverted yield curve
Inverted
Yield
Curve
Yield
Curve
indicates
that investors expect the economy to slow or decline
87
6 future, and this slower growth may lead to lower inflation
in 76the
5 5lower interest rates for all maturities. An inverted yield
and
4 4 typically indicates that central banks are tightening
curve
33
22
monetary
policy, limiting the money supply and making credit
11
less
available.
An inverted yield curve has often historically been
00
a harbinger
of
to
1
2 an 3economic
4
5recession.
6
7Investors
8
9are willing
10 30
1
2
3
4
5
6
7
8
9
10 30
accept a lower interestTerm
rate now
in return for being locked in for
TermtotoMaturity:
Maturity:Years
Years
years to come. An illustration of this is shown below.
7
66
5
5
4
34
23
12
01
0
2
1
3
2
4
5
6
7
8
9
10 30
Term
to
Maturity:
Years
3
4
5
6
7
8
9
10 30
Term to Maturity: Years
4
5
6
7
8
Term to Maturity: Years
10
30
CONCLUSION
Yield
to Maturity
Yield
to Maturity
% %
Yield to Maturity %
y%
Yield to Maturity %
Yield to Maturity %
ed
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