CFA Level I · CFA Level I Exam · The Term Structure of Interest Rates: Spot, Par, and Forward Curves
Compared with a bond's yield to maturity, discounting its cash flows using spot rates most likely:
Spot-rate discounting applies a rate specific to the maturity of each cash flow, whereas yield to maturity uses a single rate for all cash flows. This makes the spot approach reflect the term structure and produces an arbitrage-free price.
- Aignores the reinvestment assumption in favor of the coupon rate
- Buses a single discount rate for all cash flows
- Capplies a rate specific to the maturity of each cash flowCorrect
Explanation
Spot-rate valuation discounts each cash flow at the spot rate for its own maturity. Yield to maturity applies one rate to all cash flows, which is the opposite of option B.
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