What is a potential risk that comes from assuming yields change equally?

When analyzing potential risks associated with assuming yields change equally, spread risk emerges as the most relevant concept. Spread risk refers to the possibility that the difference between yields on different types of debt instruments could change unpredictably. This risk can arise from various factors that affect the market differently, such as changes in credit conditions, investor sentiment, or supply and demand.

When one assumes that yields change uniformly across different securities or sectors, this can lead to mispricing and inadequate risk assessment. For example, if a portfolio manager assumes that an increase in yields affects all bonds equally without considering the unique characteristics and risks of various securities, they may underestimate the potential for adverse movement in credit spreads. If spreads widen significantly for certain debt instruments while overall yields rise, the impact on those specific instruments can be detrimental, contrary to the assumptions made.

While liquidity risk concerns the market's ability to execute trades without affecting asset prices, market risk relates to the overall market's movements impacting asset prices. Model risk involves the potential errors that can arise due to reliance on financial models. However, none of these risks capture the essence of how assuming uniform yield changes can lead to misjudging the nuances of bond spread movements, which is why spread risk stands out in this context.