Fixed Income Relative Value Analysis: Rich/Cheap, Asset Swaps, Sector Rotation, and Cross-Market Trades

What Relative Value Means in Fixed Income

In equity markets, relative value means finding a stock that is cheap relative to its earnings, assets, or peers. In fixed income, relative value is more precise: it means finding bonds that offer more or less spread compensation than peers with equivalent credit risk, duration, and liquidity — and then determining whether that spread difference is a mispricing or a fundamental reflection of credit quality differences.

The fixed income relative value toolkit spans several analytical dimensions:

• Within-sector, same-rating, similar-duration — is Bond A at Z+160bps cheap or rich vs Bond B at Z+145bps?
• Across sectors at same rating and duration — is IG financials at Z+120bps cheap or rich vs IG utilities at Z+85bps?
• Against the swap curve — is Bond A at ASW+25bps cheap or rich vs swaps?
• Cross-market (USD vs EUR vs GBP) — is US IG cheap or rich vs EUR IG on a currency-hedged basis?
• Along the credit curve — is the 5Y vs 10Y credit spread steep enough for this issuer?

Related reading: Fixed Income Analysis AI | Portfolio Optimization | Yield Curve Analysis

Z-Spread and OAS: The Foundation of Relative Value

The Z-spread (zero-volatility spread) is the constant spread added to all points on the Treasury spot curve that equates the PV of bond cash flows to the market price. The OAS (option-adjusted spread) removes the value of any embedded option (call, put, prepayment) before computing the spread — so OAS is Z-spread minus option value.

For relative value comparison, OAS is preferred for bonds with embedded options (most corporate bonds are callable). For bullet bonds (no optionality), Z-spread and OAS are equivalent.

A practical relative value question: Two BBB-rated, 7-year corporates in the same sector (technology hardware):

• Bond A: Hewlett-Packard 2031, OAS = 145bps, Z-spread = 148bps (slightly callable), modified duration 6.2Y
• Bond B: Dell Technologies 2031, OAS = 162bps, Z-spread = 165bps, modified duration 6.1Y

Dell offers 17bps more OAS for nearly identical duration and the same sector/rating. Is this justified by fundamentals?

• "Compare these two BBB-rated 7-year technology corporate bonds for relative value: Bond A (HP 2031): price 97.50, coupon 5.25%, YTM 5.65%, OAS 145bps, modified duration 6.2Y, outstanding $1.5B, callable in 2027. Bond B (Dell 2031): price 96.20, coupon 5.40%, YTM 5.82%, OAS 162bps, modified duration 6.1Y, outstanding $750M, callable in 2028. Both rated BBB by S&P/Moody's. Analyze: (a) which bond is cheaper on an OAS basis? (b) is the 17bps OAS difference justified by liquidity (Dell is half the size)? (c) is the option value difference material — HP has an earlier call at 2027, Dell at 2028? (d) given HP's stronger balance sheet (net leverage 2.1x vs Dell 3.4x), should HP actually trade tighter than Dell? By how much?"
• "Run a regression-based rich/cheap analysis for IG technology sector bonds. I have 12 bonds with the following OAS and characteristics: [Bond 1: BBB+, 3Y duration, OAS 110bps; Bond 2: BBB, 5Y, OAS 135bps; Bond 3: BBB, 7Y, OAS 145bps; Bond 4: BBB-, 7Y, OAS 175bps; Bond 5: BBB+, 7Y, OAS 125bps; Bond 6: A-, 5Y, OAS 88bps; Bond 7: A-, 7Y, OAS 98bps; Bond 8: BBB, 10Y, OAS 165bps; Bond 9: BBB-, 10Y, OAS 205bps; Bond 10: A, 3Y, OAS 68bps; Bond 11: BBB+, 10Y, OAS 150bps; Bond 12: BBB-, 5Y, OAS 155bps]. Regress OAS on duration and rating score (A-=1, BBB+=2, BBB=3, BBB-=4). Identify which bonds are >15bps rich or cheap to the fitted line."

Asset Swap Spread (ASW) Relative Value

An asset swap packages a fixed-rate bond with an interest rate swap: the investor receives the bond's fixed coupon and pays the floating swap rate, receiving SOFR + the asset swap spread. The ASW strips out the risk-free rate component and isolates the credit and liquidity premium of the bond — making it the preferred tool for comparing bonds with different coupons and maturities.

ASW calculation (simplified par ASW):
ASW ≈ Bond YTM − Par Swap Rate (same maturity) + (Bond Price − Par) × annuity factor

If a bond trades at 97 (3 points below par) and yields 5.75% while the 7Y par swap rate is 5.40%, the ASW is approximately:
5.75% − 5.40% + 3 points / 6.2Y duration × 100 ≈ 35bps + 48bps ≈ 83bps

Interpretation: negative ASW means the bond is expensive relative to swaps; a very positive ASW means the bond is cheap relative to swaps. IG bonds typically trade at positive ASW (5–150bps depending on rating and sector).

• "Calculate the par asset swap spread for these two bonds: Bond A: coupon 5.50%, price 101.25, YTM 5.35%, modified duration 6.2Y. The 7-year par swap rate is 5.15%. Bond B: coupon 4.75%, price 96.80, YTM 5.28%, modified duration 6.4Y. The 7-year par swap rate is 5.15%. For each bond: (a) approximate ASW = YTM − swap rate + (price − par)/duration × 100 adjustment, (b) which bond is cheaper on an ASW basis? (c) why does the premium bond (Bond A at 101.25) have a lower ASW than its yield spread would suggest?"
• "My portfolio holds $20M of a BBB corporate bond with ASW spread of +45bps (cheap vs historical average of +30bps for this credit quality). A new issue from the same sector is pricing at ASW +38bps — tighter than my holding but richer than historical average. Should I switch? Consider: (a) the 7bp ASW advantage of staying in the existing bond, (b) the transaction cost: 8bps bid-ask on the sale + 5bps new issue concession on the new bond = 13bps round trip, (c) how many months of holding is required for the 7bp ASW advantage to overcome the 13bp switch cost? (d) what credit considerations should I analyze before switching?"

On-the-Run vs Off-the-Run Treasury Relative Value

The on-the-run (OTR) Treasury is the most recently auctioned bond at each benchmark maturity (2Y, 3Y, 5Y, 7Y, 10Y, 30Y). It trades at a liquidity premium — lower yield and tighter bid-ask spreads — because it is the benchmark bond used in futures, repo markets, and hedging. The off-the-run (OFT) bonds are older issuances at similar maturities that trade 1–5bps cheaper.

The OTR/OFR spread trade: buy cheap off-the-run (yield 4.49%), sell expensive on-the-run (yield 4.45%), pocket 4bps. The trade is nearly duration-neutral if both bonds have similar maturities. The risk: the OTR/OFR spread can widen before it narrows — especially in stressed markets where liquidity premium expands.

• "Analyze the on-the-run vs off-the-run 10-year Treasury trade. OTR 10Y (issued 3 months ago): yield 4.45%, price 100.38, modified duration 8.5Y. OFR1 10Y (issued 6 months ago, 9.75Y remaining): yield 4.47%, price 100.21, modified duration 8.35Y. OFR2 10Y (issued 1 year ago, 9Y remaining): yield 4.50%, price 100.01, modified duration 8.15Y. (a) Calculate the DV01-neutral trade: buy $100M OFR2 (yield 4.50%), sell how much OTR (yield 4.45%) to be DV01-neutral? (b) P&L if the OTR/OFR2 spread narrows from 5bps to 2bps over 3 months. (c) Breakeven: how far can the spread widen before 3 months of carry (5bps × 8.5Y duration / 4 = approx return from holding) is offset?"

Cross-Sector Relative Value: IG Financials vs IG Utilities

Different sectors within investment grade trade at different spreads due to fundamental sector risk characteristics, technical supply/demand factors, and historical volatility. Cross-sector relative value asks: given the same rating, duration, and credit quality, which sector offers better risk-adjusted spread compensation?

Current spreads in context (mid-2026):

• IG Financials (A-rated, 5Y): OAS 105bps
• IG Utilities (A-rated, 5Y): OAS 82bps
• IG Technology (A-rated, 5Y): OAS 78bps
• IG Healthcare (A-rated, 5Y): OAS 88bps

• "Analyze the cross-sector relative value among A-rated, 5-year IG bonds: Financials OAS 105bps, Utilities OAS 82bps, Technology OAS 78bps, Healthcare OAS 88bps. Historical 5-year averages: Financials 95bps, Utilities 85bps, Technology 72bps, Healthcare 90bps. (a) Which sector is cheapest vs history (highest Z-score of current spread vs 5Y average)? (b) Which is richest? (c) Financials trade 23bps wide to Technology today vs historical average of 23bps — is this a fair premium given the differences in business risk, regulation, and leverage? (d) If I overweight Financials by 8% vs benchmark (and underweight Technology by 8%), what is the expected return if spreads revert to historical averages over 6 months? Assume spread duration of 4.6Y."

Cross-Market Relative Value: US IG vs EUR IG on Hedged Basis

International portfolio managers compare bonds across markets after hedging the FX risk. The FX-hedged yield of a foreign bond = Local yield − FX hedging cost + cross-currency basis. For a USD investor buying EUR IG:

USD-equivalent EUR IG yield = EUR IG yield + EURUSD 3M cross-currency basis

If the 3-month EURUSD cross-currency basis is −25bps (USD scarce relative to EUR, a negative basis favors USD investors buying EUR bonds), then EUR 5Y A-rated IG at 3.85% yields approximately 3.85% + 25bps = 4.10% on a USD-hedged basis. Compare to US 5Y A-rated IG at 4.35%: US IG is 25bps wider on a hedged basis, suggesting US IG is cheap vs EUR IG.

• "Compare US IG vs EUR IG (both A-rated, 5-year) on a currency-hedged basis for a USD-based investor. US IG yield: 4.35% (OAS 78bps over 5Y Treasury at 4.65% — wait, let me recalculate: if 5Y Treasury = 4.65% and OAS = 78bps, US IG yield = 5.43%). EUR IG yield: 3.85% (OAS 95bps over 5Y Bund at 2.90%). 3-month EURUSD cross-currency basis: -22bps (EUR is expensive to borrow in USD terms, so USD investor hedging EUR bond receives an extra 22bps). USD-hedged EUR IG yield = 3.85% + 0.22% = 4.07%. Compare to US IG at 5.43%. Which is cheaper? How large is the gap? Does this gap justify a tactical allocation shift? What risks exist in the cross-market trade?"

Credit Curve Relative Value: 5Y vs 10Y from the Same Issuer

The credit curve of a single issuer plots OAS vs maturity. The steepness of the credit curve (how much extra spread does the 10Y bond pay over the 5Y bond from the same issuer) reflects the incremental credit risk of holding longer-dated obligations. When credit curves are steep, buying long-dated bonds and selling short-dated bonds from the same issuer captures roll-down as bonds move along the credit curve.

• "Analyze the credit curve relative value for Goldman Sachs: GS 5Y bond (BBB+ rated): OAS 118bps, modified duration 4.6Y. GS 10Y bond (BBB+ rated): OAS 145bps, modified duration 8.5Y. The 5s10s credit curve is 27bps. Comparable bank 5s10s average: JPMorgan = 22bps, Bank of America = 25bps, Citigroup = 30bps, Wells Fargo = 18bps. Sector 5s10s average = 24bps. Is Goldman's 27bps credit curve steep or flat vs peers? (a) calculate the excess steepness: 27 vs 24bps average. (b) if I buy GS 10Y and sell GS 5Y in DV01-neutral terms, targeting $10,000 DV01 on each leg, what is the expected P&L if the GS credit curve flattens to 24bps (3bps flattening)? (c) what is the carry on this position?"

Fallen Angel Trade: Forced Selling Creates Opportunity

When a bond is downgraded from BBB- (lowest investment grade) to BB+ (highest high yield), it becomes a "fallen angel." The consequences are immediate and mechanical: IG-mandate portfolio managers must sell because they cannot hold HY bonds. This forced selling is not driven by fundamental reassessment of value — it is purely mechanical mandate compliance. The result is a temporary widening of the fallen angel's spread beyond its fair value, creating a buying opportunity for HY-mandate managers.

Historically, fallen angel bonds outperform both the broader IG index (in the 3 months before the downgrade, as they widen in anticipation) and the HY index (in the 3–6 months after, as forced selling abates and HY buyers absorb the supply).

• "Ford Motor Credit (FMCC) has just been downgraded from BBB- to BB+ by Moody's. The bond I'm analyzing: FMCC 5.80% 2029 (7Y maturity). Before downgrade: OAS 215bps, trading at $97.50. Post-downgrade: OAS 275bps, trading at $94.20 (spread widened 60bps on forced IG selling). BB-rated automotive sector peer average OAS: 245bps (same maturity). Questions: (a) is FMCC cheap or rich vs HY auto peers at 275bps vs 245bps average? (b) calculate the P&L if FMCC spread compresses from 275bps to 245bps over 3 months (bond duration approximately 5.8Y), (c) what is the cost basis vs expected recovery to buy $10M face? (d) what are the key fundamental risks that could cause FMCC to widen further to 325bps rather than tighten?"

Statistical Rich/Cheap Screening with Claude

Beyond individual pair analysis, systematic relative value screening uses regression to identify outliers across a broad bond universe. The idea: regress OAS on factors that explain spread levels (rating, duration, sector, liquidity) and identify bonds whose actual OAS is significantly different from the predicted OAS. Bonds trading 20+ bps above the regression line are "statistically cheap" (rich-seeming OAS); bonds 20+ bps below the line are "statistically rich."

• "I have a universe of 50 IG corporate bonds. Run a conceptual OAS regression: OAS_i = α + β1 × Duration_i + β2 × RatingScore_i + β3 × SectorDummy_i + β4 × LiquidityScore_i + ε_i. Where RatingScore: A+=1, A=2, A-=3, BBB+=4, BBB=5, BBB-=6; LiquidityScore: >$1B outstanding=0, $500M-$1B=10bps, <$500M=20bps. For this specific bond: BBB rated (RatingScore=5), 7Y duration, financial sector, $600M outstanding (LiquidityScore=10bps), current OAS=168bps. Using typical regression coefficients: α=10, β1=8 (bps/year), β2=15 (bps/notch), β3=-5 (financials discount vs industrials), β4=1 (per bp of liquidity score). Predicted OAS = 10 + 8×7 + 15×5 + (-5) + 10 = 146bps. Residual = 168 - 146 = +22bps. Is this bond statistically cheap?"
• "Generate a weekly relative value screening report for my $500M IG portfolio. For each of my 40 bond holdings, I want to see: (a) current OAS vs 30-day moving average OAS (is each bond widening or tightening on a trend basis?), (b) OAS percentile vs 1-year history (top 20% = rich, bottom 20% = cheap), (c) OAS vs sector average (which bonds are most out of line with sector), (d) ASW vs 30-day MA. Flag any bonds that score as 'cheap' on 3 or more of these dimensions — those are candidates for adding. Flag any that score as 'rich' on 3+ dimensions — candidates for reducing."

For building the portfolio framework that acts on these relative value signals, see Fixed Income Portfolio Optimization. For performance measurement of active relative value bets, see Fixed Income Performance Attribution. For the quantitative risk context, see Portfolio VaR with Claude.

Setting Up Claude for Relative Value Analysis

{
  "mcpServers": {
    "claudefinlab-market": {
      "url": "https://claudefinancelab.com/market/sse",
      "headers": { "Authorization": "Bearer YOUR_API_KEY" }
    },
    "claudefinlab-portfolio": {
      "url": "https://claudefinancelab.com/portfolio/sse",
      "headers": { "Authorization": "Bearer YOUR_API_KEY" }
    }
  }
}

The market MCP server provides live OAS data, ASW spreads, and sector benchmarks. The portfolio server tracks your holdings' spread levels vs historical ranges, enabling real-time rich/cheap monitoring. See Quantitative Finance tools for the complete toolkit.

Frequently Asked Questions

What is the difference between Z-spread and OAS?

The Z-spread (zero-volatility spread) is the constant spread added to all points on the Treasury spot curve that makes the discounted cash flows equal the bond's market price. It assumes no optionality. The OAS (option-adjusted spread) removes the value of embedded options (calls, puts, prepayment options in MBS) before computing the spread. For a callable corporate bond, OAS = Z-spread − option value. Comparing Z-spreads of callable and non-callable bonds is incorrect — always use OAS when comparing bonds with different option structures. For Treasury bonds (no options), Z-spread and OAS are identical.

What is the asset swap spread and when is it negative?

The asset swap spread (ASW) is the spread above SOFR (or LIBOR historically) that an investor receives when they package a fixed-rate bond with an interest rate swap to create a floating-rate structure. A negative ASW means the bond is expensive relative to the swap curve — the investor receives less than SOFR after accounting for the swap. Negative ASW is common for: on-the-run Treasuries (highest liquidity premium), AAA-rated supranational bonds, and bonds with special repo value. A positive ASW compensates for credit risk and illiquidity above the swap rate.

How wide does the fallen angel spread get before it normalizes?

Research shows that fallen angel bonds typically widen 40–80bps in the 3–6 months before the actual downgrade (as rating agencies signal distress), then widen an additional 30–60bps in the 2–4 weeks around the downgrade itself (forced selling peak). After the forced selling clears (typically 4–8 weeks post-downgrade), fallen angels begin to tighten. They typically recover 50–70% of the post-downgrade widening within 6 months. The key risk is that the downgrade represents the beginning of a fundamental deterioration rather than a mechanical event — in that case, spreads continue to widen.

What is cross-currency basis and how does it affect cross-market relative value?

The cross-currency basis swap (XCCBS) is the spread paid or received on top of SOFR when swapping USD funding for foreign currency funding. A negative EURUSD basis means USD is relatively scarce — USD borrowers receive EUR at EURUSD-SOFR + a premium, making EUR bonds more attractive to USD investors on a hedged basis. When the basis is deeply negative (as occurred in 2016 and 2020), the FX-hedged yield of EUR government bonds exceeded US Treasury yields, creating a clear cross-market arbitrage. Monitoring the basis is essential for global bond portfolio managers making cross-market allocation decisions.

How do you use Claude to screen for cheap bonds across a large universe?

The most efficient workflow is to: (1) export your bond universe with OAS, duration, rating, sector, and liquidity data into a structured format (CSV or table), (2) paste this data into Claude with a prompt asking for regression-based rich/cheap analysis, and (3) filter to bonds where actual OAS exceeds fitted OAS by more than 15–20bps. Claude can run the conceptual regression, identify outliers, and explain the likely drivers of the residual (liquidity, credit quality, structural features). For real-time screening, the ClaudeFinanceLab market MCP server provides live OAS data so the screening updates automatically. See Portfolio Optimization for how to act on these signals within a constraint-aware framework.