Chapter 1 p.43 + Flashcards
What is the impact on a rise in inflation on a bond?
Bond price will fall. (works in the same way as interest rates!)
What is market (systematic risk)?
Example would be economic changes or government actions/policies.
What feature of the bond might increase the volatility of a bond?
Term & coupon.
The lower the coupon the more suspect the bond is to volatility.
The longer the term the more open the bond is to greater volatility as there is less certainty in the market with interest rates and inflation predictions etc.
What does a yield curve show and what are the different types of yield curve?
means of comparing yields on bonds of different maturities.
relationship that exists between the redemption yield and the period to redemption.
- Normal
- Flat
- Inverted
what will a normal yield curve show?
in normal circumstances, investor demands higher yields for holding longer term bond.
therefore that curve starts low and curve rises.
what will a flat yield curve show?
this is when economic factors are deemed to be stable with no radical changes expected in either inflation or interest rates.
the yield curve therefore is practically flat.
What does an inverted yield curve show?
Shows that the yield on longer term bond is less that on short term bond.
Can be caused by investor expectations that interest rates will rise in the short term, while long term interest rates are expected to be substantially below current levels.
It can also be caused by factors connected to supply and demand that reduced the yield on longer dated bonds.
Gilts are issued by the DMO, often used as the risk free. They are categorised according to “time to redemption” but what is the time definitions?
Short, medium and long?
The terms are different for the DMO and the Financial Process definition.
DMO Definitions are
Short - less than 7 years
Medium - 7-15
Long - 15+
Financial Press Definition
Short - <5
Medium 5-15
Over 15+
What measure of inflation does an index-linked gilt use and what is the calculation of that measure before the payment date?
both the coupon value and the capital value are increased by RPI.
those issued before Sept 05 use RPI eight months before the payment date.
while those gilts issued from Sept 05 use RPI three months before each payment date.
What is the term Repo short for?
Sale and repurchase agreement.
What are the main characteristics of a repo
price difference between the sale and repurchase reflects the interest cost of raising the funds
the longer the term of the loan, the higher the purchase costs to reflect the greater interest costs!.
- buyback period usually two weeks but ranges from overnight to several months.
- if the original owner does not repurchase their stock on the pre set date and pre set price, the stock becomes the property of the lender.
What is a Strip? (strips market)
where a bond is split into the interest payments and the redemption payment.
ie a bond with ten year term will have 21 strips. one capital redemption payment and 20 interest payments!
Debentures are a written acknowledgement of debt. They are established by a Trust Deed. What must that Trust deed include?
1 - Term of the issue - interest rate, payment dates and redemption date.
2 - Assets backing the bond
3 - powers of the trustees
4 - any conditions imposed on the borrower, such as restricting the total amount of money the company can borrow by imposing a maximum radio of debt to share capital.
Debentures can be secured by one or both of a floating charge or a fixed charge.
what would constitute a fixed charge?
Charge over a specific asset of the company. ie. land or freehold property.
What constitutes a floating charge?
general charge over any of the assets of the company that are not otherwise secured.
its less secured for the lender than a fixed charge as the company is free to dispose of the asset with a floating charge by normal business activities.
