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A Tutorial on Zero Volatility and Option Adjusted Spreads

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Advances in Mathematical Finance

Part of the book series: Applied and Numerical Harmonic Analysis ((ANHA))

Summary

This paper provides a brief tutorial on the notions of a zero volatility (ZV) spread and an option adjusted spread (OAS), as applied to fixed income securities. Using the standard definitions, it is shown that the zero volatility spread measures the percentage of a security’s spread due to any embedded options and any mispricings. The mispricings could be due to either market or model error. In contrast, the OAS only measures the percentage of the security’s spread due to mis-pricings. Refinements and alternative measures of a bond’s embedded optionality and mispricings are also provided.

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Author information

Authors and Affiliations

  1. Johnson Graduate School of Management, Cornell University, Ithaca, NY 14853, USA

    Robert Jarrow

Authors
  1. Robert Jarrow
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Editor information

Editors and Affiliations

  1. Robert H. Smith School of Business Van Munching Hall, University of Maryland, College Park, MD 20742, USA

    Michael C. Fu

  2. Johnson Graduate School of Management 451 Sage Hall, Cornell University, Ithaca, NY 14853, USA

    Robert A. Jarrow

  3. Department of Mathematics, 1326 Stevenson Center Vanderbilt University, Nashville, TN 37240, USA

    Ju-Yi J. Yen

  4. Haskayne School of Business Scurfield Hall, University of Calgary, Calgary, AB T2N 1N4, Canada

    Robert J. Elliott

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© 2007 Birkhäuser Boston

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Jarrow, R. (2007). A Tutorial on Zero Volatility and Option Adjusted Spreads. In: Fu, M.C., Jarrow, R.A., Yen, JY.J., Elliott, R.J. (eds) Advances in Mathematical Finance. Applied and Numerical Harmonic Analysis. Birkhäuser Boston. https://doi.org/10.1007/978-0-8176-4545-8_6

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