Consider a Sears 9% bond and a US Treasury 9.25% bond both maturing in ten years. The current yield to maturity on the Sears bond is 5.3% compared to the Gov't bond yield of 4.5%. The higher yield on the Sears bond reflects Sears's higher probability of default. Historically, the difference between the yields of the two bonds has been 1.2%. This difference is called the "yield spread." Today the yield spread is only 0.8%. You expect that the yield spread will widen back to its historic value over the next few days. Assume that both yields will change equally to bring the spread back to its historic position and assume that the mid-point of the spread will stay where it is. What is the anticipated price change for the Sears bond and for the US Treasury bond? Assume that both bonds have a face value of $1,000 and that the price value of a basis point (PVBP) is $1.24 for both bonds. (The PVBP is the dollar amount the price will change for each 1 basis point change in the yield.)
◦ Sears -$49.60, Treasury +$49.60
◦ Sears -$24.80, Treasury +$24.80
◦ Sears +$49.60, Treasury -$49.60
◦ Sears +$24.80, Treasury -$24.80
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