Basic Features of a Bond

Report
Basic Features of a Bond
• Pay a fixed amount of interest periodically to the holder of
record
• Repay a fixed amount of principal at the date of maturity
• Bond market is divided by maturity
– Money Market - short-term issues that mature within
one year
– Notes - intermediate-term issues that mature between
one and ten years
– Bonds - long-term obligations with maturity greater
than ten years
Bond Characteristics
• Intrinsic features
–
–
–
–
Coupon - yield (interest income)
Maturity - term or serial (municipalities)
Principal value - different from market value
Type of ownership - bearer or registered
• Types of Issues
– Secured (senior) bonds (backed by asset)
– Unsecured bonds (debentures)
– Subordinated (junior) debentures
Bond Characteristics
• Indenture provisions
• Features affecting a bond’s maturity
– Callable (call premium): repurchase the bond at
a specified call price
– Convertible: bondholders have option to
exchange each bond for a specified number of
shares of common stock.
– Put provision (putable bonds): bondholders
have the option to retire the bond.
Rates of Return on Bonds
HPR i,t 
Pi,t 1  Int i,t  Pi,t
Pi,t
where:
HPRi,t = the holding period for bond i during the period t
Pi,t+1 = the market price of bond i at the end of period t
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
The Global Bond-Market Structure
• Participating issuers
– 1. Federal governments
– 2. Agencies of the federal government
– 3. State and local political subdivisions
(municipalities): Convert the tax-free yield of a
municipal bond selling close to par to an equivalent
taxable yield (ETY)
– 4. Corporations
– 5. International issues
• Foreign bonds
• Eurobonds
Equivalent Taxable Yield
i
ETY 
(1 - T )
Where:
i = coupon rate of the municipal obligations
T = marginal tax rate of the investor
Obtaining Information on Bonds
• Less emphasis on fundamental analysis
• Most bond investors rely on rating agencies
for credit analysis
• Market and economic conditions
• Intrinsic bond features
Sources of Bond Quotes
• Bank and Quotation Record
• The Blue List of Current Municipal
Offerings
• Wall Street Journal
• Barron’s
Interpreting Bond Quotes
• Quoted on basis of yield or price
• Price quotes are percentage of par
– 98 1/2 is not $98.50 but 98.5% of par
– A municipal $5,000 bond quoted at 98 1/2
would be $4,925
Corporate Bond Quotes
Cur
Bonds
Yld Vol Close
ATT 81/8 22 7.7 52 1053/8
Net
Chg
+ 1/4
Corporate Bond Quotes
Cur
Bonds
Yld Vol Close
ATT 81/8 22 7.7 52 1053/8
Issued by AT&T
Net
Chg
+ 1/4
Corporate Bond Quotes
Cur
Bonds
Yld Vol Close
ATT 81/8 22 7.7 52 1053/8
Issued by AT&T
8.125% coupon rate
Net
Chg
+ 1/4
Corporate Bond Quotes
Cur
Bonds
Yld Vol Close
ATT 81/8 22 7.7 52 1053/8
Issued by AT&T
8.125% coupon rate
matures in 2022
Net
Chg
+ 1/4
Corporate Bond Quotes
Cur
Bonds
Yld Vol Close
ATT 81/8 22 7.7 52 1053/8
Net
Chg
+ 1/4
Issued by AT&T
8.125% coupon rate
matures in 2022
Current yield = coupon/market price = 7.7%
Corporate Bond Quotes
Cur
Bonds
Yld Vol Close
ATT 81/8 22 7.7 52 1053/8
Issued by AT&T
Net
Chg
+ 1/4
52 of these bonds traded that day
8.125% coupon rate
matures in 2022
Current yield = coupon/market price = 7.7%
Corporate Bond Quotes
Cur
Bonds
Yld Vol Close
ATT 81/8 22 7.7 52 1053/8
Issued by AT&T
Net
Chg
+ 1/4
52 of these bonds traded that day
8.125% coupon rate
matures in 2022
Current yield = coupon/market price = 7.7%
The closing price was 105 3/8% of par
Corporate Bond Quotes
Cur
Bonds
Yld Vol Close
ATT 81/8 22 7.7 52 1053/8
Issued by AT&T
Net
Chg
+ 1/4
52 of these bonds traded that day
8.125% coupon rate
matures in 2022
Current yield = coupon/market price = 7.7%
The closing price was 105 3/8% of par which was up 1/4
from the prior day
Corporate Bond Quotes
• Notations
– “cv” = convertible
– “zr” = zero coupon
– “dc” = deep discount (at time of issue)
• Accrued interest must be added to price
quoted (the prorated share of the upcoming
semiannual coupon)
Treasury and Agency Bond Quotes
GOVT. BONDS & NOTES
Maturity
Rate Mo/Yr Bid Asked Chg.
55/8 Dec 99n 100:08 100:10
….
Ask
Yld.
5.04
Treasury and Agency Bond Quotes
GOVT. BONDS & NOTES
Maturity
Rate Mo/Yr Bid Asked Chg.
55/8 Dec 99n 100:08 100:10
….
Ask
Yld.
5.04
Prices are in 32nds usually with a very small spread
between bid and ask
Practice Questions
• 1. An investor in the 28% tax bracket is trying to
decide which of two bonds to choose. One is a
corporate bond with 8% coupon rate at par. The
other is a municipal bond with a 5.5% coupon
selling at par.
• 2. What’s the price for:
– 1. A 15-yr zero coupon bond with a YTM of 12%
– 2. A 20-yr zero coupon bond with a YTM of 10%

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