Ch15e BondFundamentals

Lecture Presentation Software
to accompany Chapter 15
Investment Analysis and Bond Fundamentals
Portfolio Management Questions to be answered:
Sixth Edition • What are some of the basic features of bonds
by
that affect their risk, return, and value?
Frank K. Reilly & Keith C. Brown
• What is the current country structure of the
Chapter 15
Version 1.2
world bond market and how has the makeup
of the global bond market changed in recent
Copyright © 2000 by Harcourt, Inc.
All rights reserved. Requests for permission to make years?
copies of any part of the work should be mailed to:
Permissions Department
Harcourt, Inc.
6277 Sea Harbor Drive
Orlando, Florida 32887-6777 Copyright © 2000 by Harcourt, Inc. All rights reserved
1 2
Chapter 15 Chapter 15
Bond Fundamentals Bond Fundamentals
• What are the major components of the world • What are the characteristics of bonds in the
bond market and the international bond major bond categories such as governments,
market? agencies, municipalities, and corporates?
• What are bond ratings and what is their • How does the makeup of the bond market in
purpose? major countries such as the United States,
• What is the difference between investment- Japan, the United Kingdom, and Germany
grade bonds and high-yield (junk) bonds? differ?
Copyright © 2000 by Harcourt, Inc. All rights reserved Copyright © 2000 by Harcourt, Inc. All rights reserved
3 4
1
• What are the important characteristics of • Within each of the major bond categories,
corporate bond issues developed in the what are the differences between major
United States during the past decade such countries such as the United States, Japan,
as mortgage-backed securities, other the United Kingdom, and Germany
asset-backed securities, zero-coupon and
deep discount bonds, high-yield bonds,
and structured notes?
5 6
• What are the important characteristics of • How do you read the quotes available for
corporate bond issues developed in the the alternative bond categories (e.g.,
United States during the past decade, governments, municipalities,
such as mortgage-backed securities, other corporates)?
asset-backed securities, zero coupon and
deep discount bonds, and high-yield
bonds?
7 8
2
Basic Features of a Bond Basic Features of a Bond
• Pay a fixed amount of interest periodically • Bond market is divided by maturity
to the holder of record – Money Market - short-term issues mature
• Repay a fixed amount of principal at the within one year
date of maturity – Notes - intermediate-term issues mature
between one and ten years
– Bonds - long-term obligations maturity greater
than ten years
• Remaining life (maturity) affect price
volatility
9 10
Bond Characteristics Bond Characteristics

• Intrinsic features
– Coupon - yield (interest income) • Indenture provisions
– Maturity - term or serial (municipalities) • Features affecting a bond’s maturity
– Principal value - different from market value – Callable (call premium)
– Type of ownership - bearer or registered – Noncallable
• Types of Issues – Deferred call
– Secured (senior) bonds – Nonrefunding provision
– Unsecured bonds (debentures) – Sinking fund
– Subordinated (junior) debentures
11 12
3
The Global Bond-Market
Rates of Return on Bonds
Structure
Pi,t +1 + Int i,t 15.1
• Participating issuers
HPR i,t =
Pi,t – 1. Federal governments
where: – 2. Agencies of the federal government
HPRi,t = the holding period return for bond i during the period – 3. State and local political subdivisions
t (municipalities)
Pi,t+1 = the market price of bond i at the end of period t
– 4. Corporations
Pi,t = the market price of bond i at the beginning of period t
Inti,t = the interest payments on bond i during period t – 5. International issues
• Foreign bonds
The holding period yield (HPY) is: • Eurobonds
HPY = HPR - 1
13 14
Participating Investors Bond Ratings

• Individual investors • Ratings Services
• Institutional investors 1. Duff and Phelps
2. Fitch Investors Service
3. Moody’s
4. Standard & Poor’s
• Non-rated bonds
15 16
4
Alternative Bond Issues Government Agency Issues
Domestic government bonds United States
– United States - T-bills, notes, bonds – Not direct issues, but backed by “full faith and
– Japan - medium term, long term, super long credit” of the U.S. government
term – GNMA pass-through certificates
– Germany - bund bonds, contract with Japan
Kassenverien – Government associate organizations
• liquid market provided by Bundesbank
Germany
– United Kingdom - short gilts, medium gilts,
long gilts – Federal Railway and Federal Post Office
17 18
Municipal Bonds Equivalent Taxable Yield

• General obligation (Gos) bonds i
ETY =
• Revenue bonds (1 - T )
Where:
• Interest payments are exempt from
federal income tax i = coupon rate of the municipal obligations
• Convert the tax-free yield of a T = marginal tax rate of the investor
municipal bond selling close to par to
an equivalent taxable yield (ETY)
19 20
5
Municipal Bond Guarantees Municipal Bond Guarantees
• Bond insured against default risk
– Insurance is irrevocable for the life of the issue • Insured bonds obtain AAA (Aaa) ratings
• Four private bond insurance carriers • Issues with private guarantees have more
– Municipal Bond Investors Assurance (MBIA) active secondary market, and lower required
– American Municipal Bond Assurance
yield
Corporation (AMBAC)
– Financial Security Assurance
– Financial Guaranty Insurance Company (FGIC)
21 22
Corporate Bonds Corporate Bonds

• Mortgage bonds • Zero-coupon and deep-discount bonds
• Collateral trust bonds – Minicoupon bonds
• Equipment trust certificates – Original-issue discount (OID) bonds
– Taxes due on the implied interest
• Collateralized mortgage obligations
(CMOs) • High-yield bonds (speculative bonds and
junk bonds)
• Other asset-backed securities (ABS)
– Noninvestment grade rating below BBB or Baa
• Variable rate notes
23 24
6
Japanese Corporate Bond Market German Corporate Bond Market
• Bonds issued by industrial firms or utilities • Bank bonds
• Bonds issued by banks to finance loans to • German mortgage bonds
corporation • German commercial bonds
– Commercial banks • Schuldscheindarlehen
– Long-term credit banks
– Mutual loan and savings banks
– Specialized financial institutions
25 26
U.K. Corporate Bond Markets International Bonds

• Debentures • Foreign bonds are sold in one country and
• Unsecured loans currency by a borrower of a different
• Convertible bonds nationality
– Yankee bonds are U.S. dollar denominated
bonds sold in the U.S. but issued by a foreign
firm
• Eurobonds are underwritten by international
bond syndicates and sold in several national
markets
27 28
7
International Bonds International Bonds
• United States • Japan
– Yankee bonds register with SEC – Samurai bonds - yen denominated issued by
– Eurodollar bond market affected by changes in non-Japanese firms in Japan
value of U.S. dollar – Euroyen bonds - yen denominated, sold outside
Japan
29 30
International Bonds International Bonds

• Germany • United Kingdom
– DM-denominated bonds issued by foreign – Bulldog bonds are sterling-denominated bonds
companies are Eurobonds issued by non-English firms and sold in London
– Eurosterling bonds are sold in markets outside
London by international syndicates
31 32
8
Obtaining Information on Bonds Bond Publications
• Less emphasis on fundamental analysis • Treasury Bulletin
• Standard & Poor’s Bond Guide
• Most bond investors rely on rating agencies • Moody’s Bond Record
for credit analysis • Moody’s Bond Survey
• Market and economic conditions • Fitch Rating Register
• Fitch Corporate Credit Analysis
• Intrinsic bond features • Fitch Municipal Credit Analysis
• Popular publications available: • Investment Dealers Digest
– Wall Street Journal, Barron’s, Business Week, • Credit Markets
Fortune, Forbes, Federal Reserve Bulletin, • Duff & Phelps Credit Decisions
Survey of Current Business • The Bond Player
33 34
Sources of Bond Quotes Interpreting Bond Quotes

• Bank and Quotation Record • Quoted on basis of yield or price
• The Blue List of Current Municipal • Price quotes are percentage of par
Offerings – 98 1/2 is not $98.50 but 98.5% of par
• Wall Street Journal – A municipal $5,000 bond quoted at 98 1/2
would be $4,925
• Barron’s
35 36
9
Corporate Bond Quotes Corporate Bond Quotes
Cur Net Cur Net
Bonds Yld Vol Close Chg Bonds Yld Vol Close Chg
ATT 81/8 22 7.7 52 1053/8 + 1/4 ATT 81/8 22 7.7 52 1053/8 + 1/4
Issued by AT&T
37 38

Cur Net Cur Net
ATT 81/8 22 7.7 52 1053/8 + 1/4 ATT 81/8 22 7.7 52 1053/8 + 1/4
Issued by AT&T Issued by AT&T
8.125% coupon rate 8.125% coupon rate
matures in 2022
39 40
10
Cur Net Cur Net
ATT 81/8 22 7.7 52 1053/8 + 1/4 ATT 81/8 22 7.7 52 1053/8 + 1/4
Issued by AT&T Issued by AT&T 52 of these bonds traded that day
matures in 2022 matures in 2022
Current yield = coupon/market price = 7.7% Current yield = coupon/market price = 7.7%
41 42

Cur Net Cur Net
ATT 81/8 22 7.7 52 1053/8 + 1/4 ATT 81/8 22 7.7 52 1053/8 + 1/4
Issued by AT&T 52 of these bonds traded that day Issued by AT&T 52 of these bonds traded that day
matures in 2022 matures in 2022
Current yield = coupon/market price = 7.7% Current yield = coupon/market price = 7.7%
The closing price was 105 3/8% of par The closing price was 105 3/8% of par which was up 1/4
from the prior day
43 44
11
Corporate Bond Quotes Treasury and Agency Bond Quotes
• Notations • Notations
– “cv” = convertible – “n” = treasury note
– “zr” = zero coupon – “p” = treasury note on which nonresident aliens
– “dc” = deep discount (at time of issue) are exempt from withholding taxes on interest
• Accrued interest must be added to price • Quotes resemble OTC securities with bid
quoted and ask prices
45 46
Treasury and Agency Bond Quotes Treasury and Agency Bond Quotes
GOVT. BONDS & NOTES GOVT. BONDS & NOTES
Maturity Ask Maturity Ask
Rate Mo/Yr Bid Asked Chg. Yld. Rate Mo/Yr Bid Asked Chg. Yld.
55/8 Dec 99n 100:08 100:10 …. 5.04 55/8 Dec 99n 100:08 100:10 …. 5.04
Prices are in 32nds usually with a very small spread

between bid and ask
47 48
12
Treasury and Agency Bond Quotes Municipal Bond Quotes
200 INDIANA ST OFFICE BLDG COMMN MBIA 0.000 07/01/05 5.60 BEARSTER
• U.S. Treasury Strips Quote from The Blue List of Current Municipal Offerings
– “ci” is the coupon interest portion stripped from $200,000 of Indiana State Office Building bonds
the note Guaranteed by MBIA
– “np” is the principal payment for the treasury
These are zero coupon bonds due July 1, 2005
note
• Treasury Bills The yield to maturity is given as 5.6%
– Pure discount instrument - there is no coupon, To determine the price you compute the discount value
they pay par at maturity The dealer offering the bonds is Bear Sterns, listed in
– The bid-ask is not the price but the yield the back of the publication with their phone number
49 50
The Internet
Municipal Bond Quotes
• Notations
Investments Online
ETM = escrow till maturity www.bonds-online.com
M/S/F = mandatory sinking fund www.prusec.com/daily.htm
(C97) = this bond became callable in 1997
www.fitchinv.com
When the market yield equals the coupon rate, the
price is 100 and they are referred to as dollar bonds www.moodys.com
“+” in the left column indicates a new item www.standardandpoors.com/ratings
“#” before yield to maturity or price indicates a
change
www.bradynet.com
www.bondmarkets.com
51 52
13
Future topics
Chapter 16
End of Chapter 15 • Computing bond yields
• What determines interest rates?
–Bond Fundamentals
• Term-structure theories
• What determines the price
volatility for Bonds
53 54
Copyright © 2000 by Harcourt, Inc. All rights reserved
55
14

Ch15e BondFundamentals

Uploaded by

Document Information

Original Title

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

Ch15e BondFundamentals

Uploaded by

Copyright:

Available Formats

Lecture Presentation Software

Bond Characteristics Bond Characteristics

Participating Investors Bond Ratings

Municipal Bonds Equivalent Taxable Yield

Corporate Bonds Corporate Bonds

U.K. Corporate Bond Markets International Bonds

International Bonds International Bonds

Sources of Bond Quotes Interpreting Bond Quotes

Corporate Bond Quotes Corporate Bond Quotes

Corporate Bond Quotes Corporate Bond Quotes

Prices are in 32nds usually with a very small spread

Copyright © 2000 by Harcourt, Inc. All rights reserved

You might also like