Z Spread - USD Swap Curve
I am trying to better understand Z and G spreads and was hoping someone could assist... First starting with Z spreads, why does using Z spread make bonds easily comparable? And...how exactly is the zero coupon USD swap curve created?
Now going to G spreads...is it the same methodology except with the interpolated Gov't bond of said maturity? I.e. on every cash flow date of the risky bond, take the same spread over the interpolated Gov't bond? (For Z it would be the USD swap curve.)
Why is it that G spreads are so close to Z spreads (in current times)?
The way I understand the advantage of Z-spread over YTM+spread is that yield-to-maturity disregards the term structure and will penalize lower duration bonds (e.g. lower maturity or higher coupon) This means that when comparing YTM of two different bonds you will have to differentiate between the credit spread and duration. By applying Z-spread you discount cash flows at according rates, so you can compare bonds in terms of credit risk only.
Yes. My guess would be that bonds come with low coupons, so their duration is closer to zeros.
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