OAS and volatility risk reading, someone, expected

pawn

Hi all,
In reading 31, can someone explain this 'OAS tends to widen when expected volatility increases and narrows when expected volatility decreases.'
Many thanks,
S

Analyze_This

options are more valuable with higher volatility (higher probablity of being in the money by expiration), hence when volitiliy increases so does the value of the option leading to the widening in the OAS.

oneboy

jorge , oas captures everything EXCEPT the optionality . I think Lvl I and II both had topics on OAS



Edited 1 time(s). Last edit at Thursday, December 23, 2010 at 09:28PM by janakisri.

lcw77

@janakisri: That's precisely what I'm saying. The OAS is the spread at which a credit would be trading over a benchmark if it had no imbedded optionality. In other words, its the credit's spread over the benchmark, minus the component that is attributable to the value of the embedded option. Lastly, I'm well aware OAS was covered in L1 and 2.

bkballa

I agree with jorgeam86...

Darien

jorgeam86 Wrote:
-------------------------------------------------------
> Char-Lee Wrote:
> --------------------------------------------------
> -----
> > options are more valuable with higher
> volatility
> > (higher probablity of being in the money by
> > expiration), hence when volitiliy increases so
> > does the value of the option leading to the
> > widening in the OAS.
>
>
> Doesnt the OAS adjust for option value? Meaning
> any changes in the OAS are not a result of the
> embedded option.
>
> To the OP: All spreads widen when volatility
> increases as investors flock over to "safe havens"
> such as treasurys, compressing the latter's yields
> while increasing the yields of risky assets. When
> this occurs, yield spreads (including OAS) widen.

OAS is a methodology using option pricing techniques to value the imbedded options risk component of a bond's total spread.

The languange in the passage is just poorly worded (typical for the material, so get used to that). The spread that is being reference in the origial post is really the Option Price Value. If you read the rest of reading 31 you'll see that the intent of the text is to illustrate the impact of volatitly to an option price (even if it is embedded in a fixed income product)

jorgeam86, is spot on with the literal interpretation of the sentence.