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1

Functions of the capital markets
Long Term Debt Securities

  • Money market securities are used to finance ________  projects.
  • Firms like to ______  the expected life of an asset with the maturity of the debt.
  • The capital markets allow firms and governments to ______ long term debt securities.
  • With longer term debt, the cost of funds may be know for the life of the asset and there are likely to be fewer refinancing problems.

Functions of the capital markets
Long Term Debt Securities

 

  • Money market securities are used to finance short term projects.
  • Firms like to match the expected life of an asset with the maturity of the debt.
  • The capital markets allow firms and governments to issue long term debt securities.
  • With longer term debt, the cost of funds may be know for the life of the asset and there are likely to be fewer refinancing problems.

2

Market Participants

 

  • Capital markets _______ together borrowers and suppliers of long-term funds.
  • The largest purchasers of capital market securities are ________ and _________.
  • The largest issuers are the ________ and _______________.

Market Participants

 

  • Capital markets bring together borrowers and suppliers of long-term funds.
  • The largest purchasers of capital market securities are individuals and households.
  • The largest issuers are the Commonwealth and state governments.

3

Commonwealth government securities (CGS)

 

  • Commonwealth Government Securities (CGS) are __________ and ________ backed by the credit of the Commonwealth government.
  • __________ are coupon instruments whereas _____________ are discount securities.
  • Before the global financial crisis, government surpluses had reduced the need for the government to _________ bonds. In 2014, the value of Treasury bonds on issue was $233 billion.

Commonwealth government securities (CGS)

 

  • Commonwealth Government Securities (CGS) are treasury bonds and notes backed by the credit of the Commonwealth government.
  • Treasury bonds are coupon instruments whereas Treasury notes are discount securities.
  • Before the global financial crisis, government surpluses had reduced the need for the government to issue bonds. In 2014, the value of Treasury bonds on issue was $233 billion.

4

T-bonds

 

  • T-bonds are considered default risk free.
  • New issues are sold by tender and have ________ and ________ year maturities.
  • The issuance process is conducted by the ________. Bids are expressed in terms of yield to maturity to ______ decimal places (but must be a whole multiple of 0.005 percent).
  • The bid with the _______yield is accepted first.

T-bonds

 

  • T-bonds are considered default risk free.
  • New issues are sold by tender and have five and thirteen year maturities.
  • The issuance process is conducted by the RBA. Bids are expressed in terms of yield to maturity to three decimal places (but must be a whole multiple of 0.005 percent).
  • The bid with the lowest yield is accepted first.

5

Treasury Indexed Bonds

 

  • In addition to fixed principal bonds, the Commonwealth also issues bonds that _______ with inflation.
  • Treasury indexed bonds pay interest _________ and the principal amount on which the coupons are based changes with ________.
  • The issuance of Treasury indexed bonds was suspended due to low investor demand in 2003. However, this suspension appears set to be lifted during 2010.

Treasury Indexed Bonds

 

  • In addition to fixed principal bonds, the Commonwealth also issues bonds that adjust with inflation.
  • Treasury indexed bonds pay interest quarterly and the principal amount on which the coupons are based changes with inflation.
  • The issuance of Treasury indexed bonds was suspended due to low investor demand in 2003. However, this suspension appears set to be lifted during 2010.

6

Semis

  • The state governments of Australia issue bonds called ‘semis’ to finance __________.
  • These are issued by state financial authorities and are backed by the credit of the _________ state government. 
  • Unlike ________, semis are not issued through a tender system but are issued to dealer panels.
  • A large proportion of semis currently on issue are ________. For example, only about half of the semis issued by the Queensland Treasury have been issued to domestic investors.
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Semis

 

  • The state governments of Australia issue bonds called ‘semis’ to finance expenditure.
  • These are issued by state financial authorities and are backed by the credit of the particular state government. 
  • Unlike CGS, semis are not issued through a tender system but are issued to dealer panels.
  • A large proportion of semis currently on issue are offshore. For example, only about half of the semis issued by the Queensland Treasury have been issued to domestic investors.

7

Semis vs. CGS

  • Semis trade at _______ yields than CGS.
  • This is due to the following factors:
  1. State government debt is not considered ________.
  2. Semis are not as liquid as CGS and therefore attract a _________ premium.

Semis vs. CGS

  • Semis trade at higher yields than CGS.
  • This is due to the following factors:
  1. State government debt is not considered risk free.
  2. Semis are not as liquid as CGS and therefore attract a liquidity premium.

8

Corporate Bonds

  • Corporate bonds are _____________ requiring payment of interest periodically and repayment of principal at maturity.
  • Corporate bonds can be ________ or ___________.
  • Corporate bonds are usually issued in denominations of $_________ and pay coupon interest semi-annually.

Corporate Bonds

 

  • Corporate bonds are debt contracts requiring payment of interest periodically and repayment of principal at maturity.
  • Corporate bonds can be unsecured notes or debentures.
  • Corporate bonds are usually issued in denominations of $1000 and pay coupon interest semi-annually.

9

Unsecured Notes and Debentures

 

  • _________ have no specified collateral attached to the bond.
  • _________ are secured by specific assets of the corporation.
  • For example, land, buildings and equipment can be pledged as collateral for a _________

Unsecured Notes and Debentures

 

  • Unsecured notes have no specified collateral attached to the bond.
  • Debentures are secured by specific assets of the corporation.
  • For example, land, buildings and equipment can be pledged as collateral for a debenture

10

Sinking Funds

  • Some __________ have sinking fund provisions.
  • This provision requires the corporation to _______ funds with a trustee to ______  a portion of the debt issue each year.
  • The trustee may _______ the bonds by purchasing them on the market, or calling for them if a call provision is also present in the bond contract.

Sinking Funds

  • Some corporate bonds have sinking fund provisions.
  • This provision requires the corporation to place funds with a trustee to retire a portion of the debt issue each year.
  • The trustee may retire the bonds by purchasing them on the market, or calling for them if a call provision is also present in the bond contract.

11

Hybrid Securities

  • Hybrid securities have characteristics of both debt and equity.
  • Hybrids have a set coupon rate and are _________ into equity at a set ________date.
  • The market for hybrids has been growing very _______in recent years.
  • A common feature of hybrids is a ______ date.
  • On this date, the issuer can elect to _______ the terms of the security (next reset date or coupon rate).

Hybrid Securities

 

  • Hybrid securities have characteristics of both debt and equity.
  • Hybrids have a set coupon rate and are convertible into equity at a set conversion date.
  • The market for hybrids has been growing very rapidly in recent years.
  • A common feature of hybrids is a reset date.
  • On this date, the issuer can elect to change the terms of the security (next reset date or coupon rate).

12

Convertible Notes

  • Convertible notes are _______ that can be converted into _______ at the holder’s discretion.
  • Their ___________ feature permits the holder to _______ in the good fortune of the firm if the stock price _______ above a certain level.
  • It is to the investor’s advantage to ________ when the market value of the stock exceeds the market value of the notes.

Convertible Notes

 

  • Convertible notes are hybrids that can be converted into equity at the holder’s discretion.
  • Their convertibility feature permits the holder to share in the good fortune of the firm if the stock price rises above a certain level.
  • It is to the investor’s advantage to convert when the market value of the stock exceeds the market value of the notes.

13

The Primary Market for Corporate Bonds

  • New corporate bond issues are brought to the market through _______ sale or ________ placement.
  • _________ are made through an investment banking firm that purchases the bonds from the issuer and resells them to investors.
  • ____________are not very common in Australia and are mainly used to issue bonds into the United States.

The Primary Market for Corporate Bonds

 

  • New corporate bond issues are brought to the market through public sale or private placement.
  • Public sales are made through an investment banking firm that purchases the bonds from the issuer and resells them to investors.
  • Private placements are not very common in Australia and are mainly used to issue bonds into the United States.

14

The Secondary Market for Corporate Bonds

 

  • Some corporate bonds are traded on the ASX but most trading occurs through ________.
  • Corporate bonds are _______ liquid than money market securities.
  • The _______ liquidity stems from the more complicated features that make valuation difficult, and the longer terms to maturity.

The Secondary Market for Corporate Bonds

 

  • Some corporate bonds are traded on the ASX but most trading occurs through dealers.
  • Corporate bonds are less liquid than money market securities.
  • The low liquidity stems from the more complicated features that make valuation difficult, and the longer terms to maturity.

15

Credit Wrapping

 

  • Credit wrapped bonds are issued by companies with _______credit ratings.
  • These are usually companies with predictable earnings but ________gearing.
  • The credit wrapping ________ the yields on these bonds and can ________ interest savings for the issuer.

Credit Wrapping

  • Credit wrapped bonds are issued by companies with lower credit ratings.
  • These are usually companies with predictable earnings but high gearing.
  • The credit wrapping lowers the yields on these bonds and can represent interest savings for the issuer.

16

Offshore bonds

  • Many companies and governments obtain _________ in countries other than their home country.
  • Offshore bond issuance among Australian __________  increased from $60 billion to more than $460 billion between 1994 and 2009.
  • Most bonds are issued in major __________ like the US dollar, Euro and Yen.

Offshore bonds

  • Many companies and governments obtain financing in countries other than their home country.
  • Offshore bond issuance among Australian corporate entities increased from $60 billion to more than $460 billion between 1994 and 2009.
  • Most bonds are issued in major currencies like the US dollar, Euro and Yen.

17

Financial market regulators

Regulation of financial markets in Australia is three-tiered:

  • _______ is responsible for market integrity and consumer protection.
  • _______ is responsible for the prudential supervision of ADIs.
  • The _____ is responsible for the stability of the financial system and the payments system.

Financial market regulators

Regulation of financial markets in Australia is three-tiered:

  • ASIC is responsible for market integrity and consumer protection.
  • APRA is responsible for the prudential supervision of ADIs.
  • The RBA is responsible for the stability of the financial system and the payments system.