(43) Fixed-Income Markets - Issuance, Trading, and Funding Flashcards Preview

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Flashcards in (43) Fixed-Income Markets - Issuance, Trading, and Funding Deck (41)
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1
Q

LOS 52. a: Describe classifications of global fixed-income markets. How can global bond markets be classified by?

A

Global bond markets can be classified by:

Type of issuer

Credit quality

Original maturity

Coupon

Currency and geography

Other classifications

2
Q

LOS 52. a: Describe classifications of global fixed-income markets. Define the global bond market classification “type of issuer”.

A

Type of issuer: government (and government-related), corporate (financial and nonfinancial), securitized, and structured finance instrument (Mortgage backed securities and asset backed securities).

Sovereign government: national level

Non-sovereign: local level

3
Q

LOS 52. a: Describe classifications of global fixed-income markets. Define the global bond market classification “credit quality”.

A

Credit quality: Investment grade (Baa3 or BBB - and up), noninvestment grade (high yield, speculative, junk)

4
Q

LOS 52. a: Describe classifications of global fixed-income markets. Define the global bond market classification “original maturity”.

A

Original maturity: Money market (one year or less), capital market (more than one year).

5
Q

LOS 52. a: Describe classifications of global fixed-income markets. Define the global bond market classification “coupon”. Explain Libor

A

Coupon: Fixed rate, floating rate

Floating rate = reference rate + spread

Reference rate is typically libor

Spread is typically constant and set at issuance

Libor: reflects the rate at which unsecured loans can be obtained between banks in the Interbank Money Market

6
Q

LOS 52. a: Describe classifications of global fixed-income markets. Define the global bond market classification “currency and geography”.

A

Currency and geography: Domestic, foreign, global, Eurobond markets; developed, emerging markets.

7
Q

LOS 52. a: Describe classifications of global fixed-income markets. Define the global bond market classification “other classifications”.

A

Other classifications: Indexing, taxable status.

8
Q

LOS 52. b: Describe the use of interbank offered rates as reference rates in floating-rate debt.

A

Interbank lending rates, such as London Interbank Offered Rate (Libor), are frequently used as a reference rates for floating-rate debt. An appropriate reference rate is one that matches a floating-rate note’s currency and frequency of rate resets, such as 6-month U.S. dollar Libor for a semiannual floating-rate note issued in U.S. dollars.

9
Q

LOS 52. b: Describe the use of interbank offered rates as reference rates in floating-rate debt. Define the interbank market and interbank rates.

A

The interbank market refers to short-term borrowing and lending among banks of funds other than those on deposit at a central bank. Loans of reserves on deposits with a central bank are said to occur in the central bank funds market.

Interbank rates are rates that banks are willing to lend to each other

10
Q

LOS 52. c: Describe mechanisms available for issuing bonds in primary markets.

Define primary market

A
  • Primary market: issuers initially sell bonds to investors to raise capital.
  • Bonds may be issued in the primary market through a public offering (Any member of the public may buy the bonds) or a private placement (only a selected investor or group of investors may buy the bond).
  • Most common mechanisms of public offerings include
    • Underwritten offering (firm committment offering) - Investment bank guarantees the sale of the bond issue at an offering price that is negotiated with the issuer
      • investment bank is the underwriter
      • Syndicated offering includes a group of underwriters
      • Shelf registration - certain issuers can offer additional bonds to the public without having to prepare a new offering
    • Best effort offering - investment bank/syndicate serve only as a broker (less risk for investment bank
    • Auction - method that involves bidding; single price auction is where all winning bidders pay the same price and receive the same rate
  • Private placemates are non-underwritten and unregistered. Low need for liquidity; ned higher yield
11
Q

LOS 52. d: Describe secondary markets for bonds. (Two main ways for these markets to be structured)

A
  • Markets in which existing bonds are subsequently traded among investors.
  • Two main way to be structured:
    • Organized exchange: provides a place where buyers and sellers can meet to
    • Over the counter market (OTC): buy and sell orders initiated over a network (electronic trading platforms)
  • Spreads between bid and ask prices are narrower for liquid issues and wider for less liquid issues. (Less than 5 bps is very liquid; 10-12 is reasonable; 50 is illiquid; no bid/offer - completely illiquid)

Example inclue central banks and large institutional investors.

12
Q

LOS 52. e: Describe securities issued by sovereign governments.

A

Sovereign bonds are issued by national governments and backed by their taxing power. Sovereign bonds may be denominated in the local currency for a foreign currency. These bonds are usually called treasuries. They are typically unsecured obligations (not backed by collateral) and paid out of the budget surplus

The purpose of these bonds is typically for fiscal reasons such as to fund spending when tax revenues are insufficient to cover expenditures.

The most recent issued bond is called “on the run” or benchmark (Most active in the secondary market)

13
Q

LOS 52. f: Describe securities issued by non-sovereign governments, quasi-government entities, and supranational agencies.

A

Non-sovereign government bonds are issued by governments below the national level, such as provinces, cities, and states. Typically issued to finance public projects: schools, roads, hospitals. Credit ratings are generally high. Higher yield/lower price.

14
Q

LOS 52. f: Describe securities issued by non-sovereign governments, quasi-government entities, and supranational agencies.

A

Agency or quasi-government bonds are issued by government sponsored entities and may be explicitly or implicitly backed by the government. Rarely guaranteed by the sovereign. These are repaid from the cash flows of the entity. Typically have high credit rating.

15
Q

LOS 52. f: Describe securities issued by non-sovereign governments, quasi-government entities, and supranational agencies.

A

Supranational bonds are issued by multilateral agencies that operate across national borders. (IMF, World Bank, ect.). Very highly rated

16
Q

LOS 52. g: Describe types of debt issued by corporations. List them.

A

Debt issued by corporations include:

  • Private debt
    • Bi-lateral loans
    • Syndicated loans
  • Public debt:
    • Commercial Paper
    • Corporate notes and bonds
17
Q

LOS 52. g: Describe types of debt issued by corporations. Define private debt and different types

A

Private debt - customized to the borrowers needs and is usually more expensive than public debt

  • Bi-lateral loans - single lender (bank) to single borrower
  • Syndicated loans - group of lenders (banks) to a single borrower
18
Q

LOS 52. g: Describe types of debt issued by corporations. Define commercial paper.

A

Type of public debt

Commercial paper is a money market instrument (short term, unsecured) issued by financial institutions of high credit quality. Commercial paper is a source of working capital, seasonal needs, and bridge financing.

Rollover risk (rolling over the paper) is risk that the issuer will be unable to issue new paper at maturity.

Yield on CP is greater than yield on same maturity sovereign debt.

19
Q

LOS 52. g: Describe types of debt issued by corporations. Define corporate notes and bonds and list two types of principal repayment structures.

A

These range from 1 to 30 years. Short notes are less than 5 years; medium notes are 5 to 12 years; bonds are greater than 12 years.

Corporate bonds may have a term maturity structure (all bonds in an issue mature at the same time) or a serial maturity structure (bonds in an issue mature on a predetermined schedule) and may have a sinking fund provision.

20
Q

LOS 52. g: Describe types of debt issued by corporations. Define sinking fund provision.

A

With a sinking fund, the issuer must redeem part of the issue prior to maturity, but the specific bonds to be redeemed are not known.

21
Q

LOS 52. g: Describe types of debt issued by corporations. Define serial bonds.

A

Serial bonds are issued with a schedule of maturities and each bond has a known maturity date.

22
Q

LOS 52. g: Describe types of debt issued by corporations. Define term maturity structure.

A

In an issue with a term maturity structure, all the bonds are scheduled to mature on the same day. (more credit risk)

23
Q

LOS 52. g: Describe types of debt issued by corporations. Define medium-term notes.

A

Medium-term notes are corporate issues that can be structured to meet the requirements of investors. (5 to 12 year maturities)

24
Q

LOS 52. h: Describe structured financial instruments. List the 4 types

A
  1. Capital protected Instruments (Notes)
  2. Yield enhancement instruments
  3. Participation instruments
  4. Leveraged instruments
25
Q

LOS 52. h: Describe structured financial instruments. Define capital protected instruments

A

This is a combination of two securities where investor buys a zero coupon bond (discount security) plus call options

26
Q

LOS 52. h: Describe structured financial instruments. Define yield enhancement instruments

A

A bond that pays regular coupons but whose principal value depends on specific credit events such as ratings downgrade or default of an underlying asset (i.e. Credit-linked note)

No credit event - pays par

Credit event - pays a recovery rate

This protects the issuer

27
Q

LOS 52. h: Describe structured financial instruments. Define participation instruments

A

Investor participate in the return of an underlying asset. Offers exposure to a particular index or asset price

28
Q

LOS 52. h: Describe structured financial instruments. Define leveraged instruments and the coupon rate formula

A

Instruments created to magnify returns and offer the possibility of high payoffs from small investments (i.e. inverse floater)

Inverse floater coupon rate = C - (L x R)

C - maximum coupon rate reached if the reference rate (R) is equal to zero

L - coupon leverage

If L < 1 - called a deleveraged inverse floater

If L > 1 - called a leveraged inverse floater

29
Q

LOS 52. i: Describe short-term funding alternatives available to banks. List the short-term funding alternatives available to banks.

A

Short-term funding alternatives available to banks include:

Customer deposits

Large denomination negotiable CDs

Central bank funds market (Reserve funds)

Interbank funds

Repurchase and reverse repurchase agreements

30
Q

LOS 52. i: Describe short-term funding alternatives available to banks. Define customer deposits.

A

Customer deposits, including checking accounts, savings accounts, and money market mutual funds.

31
Q

LOS 52. i: Describe short-term funding alternatives available to banks. Define negotiable CDs.

A

Negotiable CDs, may be sold in the open market before maturity

32
Q

LOS 52. i: Describe short-term funding alternatives available to banks. Define central bank funds market.

A

Central bank funds market. Banks place minimum level of funds with the central bank. Helps ensure sufficient liquidity should depositors withdraw funds. Interest is called the central bank funds rate.

33
Q

LOS 52. i: Describe short-term funding alternatives available to banks. Define interbank funds.

A

Interbank funds. Banks make unsecured loans to one another for periods up to a year. Banks will typically quote 2 rates. 1) rate at which it will lend and 2) rate at which it will accept a deposit

34
Q

LOS 52. j: Describe repurchase agreements (repos) and the risks associated with them.

Also, define repo margin or haircut

What is the difference between term an overnight repo?

A

A repurchase agreement is a form of short-term collateralized borrowing in which one party sells a security to another party and agrees to buy it back at a predetermined future date and price. The repo rate is the implicit interest rate of a repurchase agreement. The repo margin, or haircut, is the difference between the amount borrowed and the value of the security.

Term repo - longer than one day

Overnight repo - one day

35
Q

LOS 52. j: Describe repurchase agreements (repos) and the risks associated with them. Define reverse repo.

A

Repurchase agreements are an important source of short-term financing for bond dealers. If a bond dealer is lending funds instead of borrowing, the agreement is known as a reverse repo.

36
Q

LOS 43. Sovereign bonds are described as on-the-run when they are what?

A

Sovereign bonds are described as on-the-run­ or benchmark when they represent the most recent issue in a specific maturity.

37
Q

Reading 43 fixed income: Please provide the trade dates when bonds will typically settle for the following:

  • Corporate bonds
  • Government and quasi-government bonds
A
  • Corporate bonds: Trade date plus 2 or 3 days
  • Government and quasi-government bonds: Cash basis or trade date plus one day
38
Q

Reading 43: Floating rate bonds are issued by national governments as the best way to reduce which type of risk?

A

Interest rate risk

39
Q

Reading 43 Fixed Income: What are the main differences between US commercial paper and Eurocommercial paper?

A
40
Q

LOS 52. j: Describe repurchase agreements (repos) and the risks associated with them. List what the repo (interest) rate is affected by

A
  1. Risk associated with the collateral - higher quality = lower rate
  2. Term of the repo - longer term = higher rate
  3. Physical delivery - if physical delivery is required, lower rate
  4. Supply/demand of collateral - more scarce = lower rate
  5. Other market rates
41
Q

A liquid secondary bond market allows an investor to sell a bond at:

A

A price close to the bond’s fair market value

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