Hi...the third type of credit derivative mentioned is credit spread options...I have in my notes that a credit spread option provides a payoff when the spread exceeds some level (the strike spread). It then says the payoff could be calculated as the difference between the value of hte bond with the strike spread and the market value of the bond. But my understanding is that this "spread" is the spread between the yields earned on two assets, say A and B. If the spread exceeds some "strike spread", then there's a payoff. The payoff could be calculated then as the difference between the value of the bond with the strike spread etc. but what do they mean by "the value of the bond with the strike spread"...i thought there were two bonds, A and B. The strike spread is just some level that dictates whether or not a payoff will be made. How do we know there is a bond with this strike spreadh? Also, when they say "the market value of the bond"...the market value of which bond?? The whole thing just doesn't make sense to me! Thanks!
