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Financial Economics > L2 - Fixed Income and Securities: Bond Characteristics > Flashcards

L2 - Fixed Income and Securities: Bond Characteristics Flashcards

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1
Q

What do fixed-income or debt securities promise?

A

Either a fixed stream of income or a stream of income determined by a specified formula (corporate bond)`

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2
Q

What is the rough definition of a bond?

A

“A bond is an obligation by the bond issuer to pay a fixed (and definite) stream of money to the bond holder in return for receiving an amount of money from the bond holder”

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3
Q

What type of instrument is a bond?

A

A debt instrument

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4
Q

What 2 key promises does a borrower make to a lender in the bond market?

A
  1. To repay capital at maturity
  2. To pay regular interest payments at a rate known as the coupon rate
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5
Q

What does the regular interest payments on the bond form?

A

Forms the interest rate on the borrowed amount paid to the investor during the life of the loan

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6
Q

What is a brief summary of the main characteristic of “Money Market securities”?

A
  • At the time of issurance are expected to mature in 1 year or less
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7
Q

What is a brief summary of a main characteristic of “Capital market securities”?

A
  • At the time of issuance are expected to mature in more than 1 year
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8
Q

What is the Par Value of a bond?

A

The principal amount that the issuer promises to repay bondholders on the maturity date

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9
Q

When is a bond trading at a premium?

A

When a bond’s price is above 100% of par

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10
Q

When is a bond trading at par?

A

When a bond’s price is at 100% of par

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11
Q

When is a bond trading at a discount?

A

When a bond’s price of below 100% of par

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12
Q

What is the Coupon Rate of a bond?

A

The annual interest rate that the issuer promises to pay bondholers until the bond matures

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13
Q

How is the Coupon Rate calculated?

A

Calculated by multiplying the coupon rate by the bond’s par value

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14
Q

What do “Plain Vanilla bonds” pay?

A

A fixed rate of interest

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15
Q

What do “Floating-rate notes (FRNS)” pay?

A

FRNs/floaters pay a floating rate: a reference rate plus a spread

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16
Q

What are “Zero-Coupon” bonds?

A

Bonds that do not pay interest

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17
Q

What are “Dual-currency” bonds?

A

Make coupon payments in one currency and the principal payment at maturity in another currency

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18
Q

What are “Currency-option” bonds?

A

Give bondholders a choice regarding which of the two currencies they would like to receive interest and principal payments in

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19
Q

What is the “Trust Deed” of a bond?

A

The legal contract that describes the form of the bond, obligations of the issuer, and the rights of the bondholders

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20
Q

What is the “Trust Deed” often called?

A

Bond indenture

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21
Q

Who holds the bond indenture and what do they do?

A

The bond indenture is held by a trustee, who, although appointed by the issuer, owes a fiduciary duty to bondholders

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22
Q

What are Sovereign bonds backed by?

A

The “full faith and credit” of the national government and thus by that government’s ability to raise tax revenues and print money

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23
Q

What are the major sources of non-sovereign government bonds?

A
  • General taxing authority of the issuer
  • Cash flows of the project the bond issue is financing
  • Special taxes or fees established specifically for the purpose of funding the payments of interest and the principal
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24
Q

What are the sources of corporate bonds?

A

The issuer’s ability to generate cash flows, primarily through its operations

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25
What is "Collateral"?
Assets or financial guarantees underlying the debt obligation above and beyond the issuer's promise to pay
26
What are "Secured" bonds?
Secured bonds are backed by assets or financial guarantees to ensure debt repayment in case of default
27
What are "Unsecured" bonds?
Unsecured bonds are not proteceted by a pledge of any specific assets (i.e., they only have a general claim on the issuer's assets and cash flows)
28
What does "Seniority ranking" mean?
If a company faces bankruptcy and its assets are liquidated, the investors (or bondholders) are repaid based on seniority
29
What are "Collateral trust bonds" secured by?
Securities such as common stock, other bonds, or other financial assets
30
What are "Equipment trust certificates" secured by?
Secured by specific types of equipment or physical assets such as aircraft or oil rigs
31
What are "Mortgage-backed securities (MBSs)"?
MBSs are backed by a pool of mortgage loans
32
What are "Covered bonds" backed by?
Backed by a segregated pool of assets (known as the cover pool)
33
What are "Covenants"?
Covenants are legally enforceable rules agreed upon by the borrower/issuer and lenders/investors at the time of bond issuance
34
What are "Affirmative covenants"?
Affirmative covenants enumerate what issuers are required to do. e.g., comply with all laws and regulations, maintain their current lines of business
35
What are "Negative covenants"?
Negative covenants enumerate what issuers are prohibited from doing, e.g., restrictions on debt, negative pledges, restrictions on distributions to shareholders.
36
What are National Bond markets?
A national bond market includes all the bonds that are issued and traded in a particular country and denominated in that country's local currency
37
What is a Eurobond?
A Eurobond is issued internationally. It is denominated in a currency other than the home currency of the country or market in which it is issued.
38
What are 3 types of investors in fixed-income securities?
- Central Banks - Institutional investors - Retail investors
39
What are Primary bond markets?
Issuers first sell bonds to investors to raise capital
40
What are Secondary bond markets?
Existing bonds are subsequently traded among investors
41
What are the 2 ways a bond can be issued in primary markets?
- A public offering - A private placement
42
What is Underwritten Offerings?
The investment bank guarantees the sale of the bond issue at an offering price that is negotiated with the issuer
43
What is Best Effort Offerings?
The investment bank only serves as a broker. It only tries to sell the bond issue at the negotiated price if it is able to for a commission
44
What are the 2 ways existing bonds are traded among investors (secondary bond markets)?
- An Organized Exchange - Over-the-Counter (OTC) markets
45
What is an Organized Exchange in Secondary bond markets?
Provides a place where buyers and sellers can meet to arrange their trades. Although buy or sell orders may come from anywhere, the transaction must take place at the exchange accoding to the rules imposed by the exchange
46
What are Over-the-Counter markets?
In Over-the-Counter markets buy and sell orders initiated from various locations are matched through a communications network
47
What are Foreign Bonds?
Bond issued in a domestic market by a foreign entity in the domestic market's currency
48
What are Eurobonds?
Debt instrument that is denominated in a currency other than the local currency of the country where it is issued
49
What type of bond is it if an Australian company issues a bond in US dollars and sells it in Japan?
Eurobond
50
What type of bond is it if an Australian company issues a bond in US dollars and sells it in the US?
Foreign Bond
51
What do Plain Vanilla Bonds make?
Periodic, fixed coupon payments and a lump-sum payment of principal at maturity
52
What are 4 types of principal repayment structure?
- Bullet structure - Amortizing bond - Partially amortized bond - Sinking fund arrangement
53
What is a bullet structure?
Has all the principal repaid at the maturity date
54
What is an Amortizing bond?
Makes periodic interest and principal payments over the term of the bond
55
What is a Partially Amortized bond?
- Also makes fixed periodic payments principal and interest until maturity, but not in full - A portion of the principal (balloon payment) is repaid by the maturity date
56
What is a Sinking Fund arrangement?
A sinking fund arrangement specifies the portion of the bond's principal outstanding that must be repaid each year throughout the bond's life or after a specified date
57
What are Conventional Bonds?
Conventional bonds pay a fixed periodic coupon over a specified time to maturity, typically annually or semi-annually and occasionally quarterly
58
What are Step-up coupon bonds?
- Have a fixed or floating coupon, which increases by specified margins at specified dates - Offer bondholders some protection against rising interest rates and may be an important feature for callable bonds
59
What are Credit-linked coupon bonds?
- Coupon that changes when the bond's credit rating changes - Attractive to investors who are concerned about future creditworthiness
60
What are Payment-in-kind (PIK) bonds?
- Typically allow the issuer to pay interest in the form of additional amounts of the bond issuer rather than a cash payment - Typically are favoured by issuers who are concerned that the issuer may face potential cash flow problems in the future
61
What are Deferred coupon (i.e., split coupon) bonds?
- Pay no coupon for the first few years but then pay a higher coupon than they otherwise normally would for the remained of their life - Are also common in project financing when the assets being develoepd do not generate any income during the development phase
62
What are Index-linked bonds?
- Have their coupon payments and/or principal repayment linked to a specified index - E.g., inflation-linked bonds, TIPS
63
Why are investors attracted to inflation-linked bonds?
They offer a long-term asset with a fixed real return that is protected against inflation risk
64
What is the Fixed Income index?
Multi-purpose tool used by investors and investment managers to describe a given bond market or sector, as well as to evaluate the performance of investments and investment managers
65

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