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Drivers of Inflation-Linked Corporate Bond Spreads and the Inflation Swap/Bond Breakeven Difference

18 Pages Posted: 21 Jul 2011  

Michael Ashton

Enduring Investments LLC

Date Written: May 15, 2008

Abstract

Spreads of inflation-linked corporate bonds over TIPS are considerably tighter than spreads of corporate bonds over nominal Treasuries. A related phenomenon is that inflation swaps rates are higher than bond “breakeven” inflation rates for the same maturities. The typical explanation for this phenomenon is that imbalances of inflation receivers over inflation payers in the CPI swaps market causes implied inflation to be mispriced in inflation swaps. Since all corporate linker issues to date have been swapped, this results in abnormally tight spreads in the corporate market. I demonstrate that the difference in spreads can be attributed to the Treasury curve, which trades richer than it should by an amount reflecting the value of the stream of special financing that redounds to the benefit of the Treasury buyer. TIPS, contrariwise, rarely trade special; therefore, the abnormally tight spreads in the corporate linker market and the difference between the bond and swap curves result from the fact that these spreads are measured against a cheaper sovereign curve.

Keywords: TIPS, inflation, inflation swaps, CPI, CPI swaps, corporate inflation-linked bonds, CIPS, ILBs

JEL Classification: G12

Suggested Citation

Ashton, Michael, Drivers of Inflation-Linked Corporate Bond Spreads and the Inflation Swap/Bond Breakeven Difference (May 15, 2008). Available at SSRN: https://ssrn.com/abstract=1892180 or http://dx.doi.org/10.2139/ssrn.1892180

Michael Ashton (Contact Author)

Enduring Investments LLC ( email )

United States

HOME PAGE: http://www.enduringinvestments.com

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